BERLIN (AP) -- The German government raised its growth forecast on Friday, predicting that Europe's largest economy will grow by 1.2 percent in 2010, up from an earlier prediction of 0.5 percent.
The new forecast was also more optimistic about this year, predicting the economy will shrink by 5 percent instead of the 6 percent foreseen in April.
Germany's export-fueled economy returned to modest growth in the second quarter following a deep recession, and business confidence and industrial orders have been improving.
Economy Minister Karl-Theodor zu Guttenberg said the economy passed its low point in the summer after a year-long downswing, and "the chances are good that we can consolidate the upward course next year."
Unemployment is still set to rise: the government forecast that the number of Germans out of work will average 3.5 million this year and increase to 4.1 million next year. That compares with 3.3 million in 2008.
"Negative forecasts of over 5 million unemployed, as were being made at the height of the economic crisis, are now totally implausible," Guttenberg said.
Unemployment has been kept in check so far by employers' use of government-supported short-time working arrangements rather than layoffs. In September, nearly 3.35 million people were registered as unemployed, a jobless rate of 8 percent.
Friday's forecast sees German exports slumping by 14.6 percent this year and then growing by 4.3 percent in 2010. In April, the government had predicted an 18.8 percent decline in 2009 and slim growth of 0.9 percent next year.
Domestic demand will shrink by 1.8 percent this year and expand by a modest 0.6 percent in 2010, the new forecast said.
The forecast comes as the partners in Chancellor Angela Merkel's incoming center-right government haggle over economic policy. Both Merkel's conservatives and the pro-business Free Democrats, their new coalition partners, advocate tax relief on the grounds that it would stimulate the economy, thus ultimately increasing tax revenue. However, the Free Democrats have called for wider-ranging cuts than Merkel's party.
"The new coalition will set the right course: only if we relieve citizens and business ... will we successfully master the crisis," said Guttenberg, a conservative who is expected to remain in the new Cabinet.
He added that "clear signposting for the way back to market economic normality" is needed following costly efforts to combat the economic crisis and that "budget discipline is a matter of course in view of strained public finances."
This year's economic performance is still on course to be easily Germany's worst since World War II, despite Friday's upward revision.
The worst performance to date was a 0.9 percent decline in West Germany's gross domestic product in 1975. The worst since German reunification was a 0.8 percent fall in 1993.
The new forecast put the government in line with predictions earlier this week by a group of leading economic research institutes.