Berlin - The German Government is expected to substantially raise its growth projections for Europe's biggest economy after leading economic institutes said Thursday that the nation was recovering faster than forecast from recession.

Releasing their closely-watched twice-yearly report, the institutes said the nation's economy should expand by 1.2 per cent in 2010 after shrinking by 5 per cent this year amid signs that growth in Germany was gaining momentum.

"The severest world economic recession since the Second World War was overcome in autumn 2009," said the institutes, which includes the Munich-based Ifo Institute, the Kiel-based Institute for the World Economy (Ifw) and the Halle-based Institute for Economic Research.

The improved economic outlook for Germany comes as Chancellor Angela Merkel's Christian Democrat-led (CDU) conservative political bloc and the business friendly Free Democrats (FDP) attempt to reach agreement on tax cuts, which is a crucial issue in their negotiations to form a new coalition government.

In particular, Germany's brighter economic outlook will give Merkel and the FDP more room to move in meeting promises made in the run-up to last month's election for tax relief.

Now with the institutes having lifted their projections, Berlin is expected to raise Friday its economic growth forecasts from previous estimates of a 6-per-cent contraction this year and an expansion rate of 0.5 per cent in 2010.

Releasing the report, the institutes also saw scope for tax cuts, but insisted that the CDU and FDP had to agree to a tough round of fiscal savings to fund taxation relief.

Already the institutes expect Germany's budget deficit to swell from about 3.2 per cent of gross domestic product this year to 5.2 per cent in 2010, as a result taking the nation's deficit well above the strict 3-per-cent fiscal target for euro member states.

"Economic policy faces considerable challenges," said Roland Doehrn, economist with Essen based RWI economic research think tank.

Helping to power growth in the coming 12 months is likely to be a more than 6 per-cent rise in exports.

But overcoming the nation's economic outlook is the threat of continuing tough financing conditions for companies and the prospects of growing jobless queues across the nation.

The numbers out of work is expected to breach the key 4 million mark next year with unemployment averaging 4.075 million in 2010 compared to 3.47 million in 2009.

The forecast rise in unemployment combined with the modest economic growth outlook means inflationary pressures in Germany are likely to remain weak.

Annual consumer prices will average 0.3 per cent in 2009, edging up to 0.6 per cent in 2010, the institutes forecast. (dpa)