Economists at Merrill Lynch are sharply boosting their U.S. GDP growth forecast for the latter half of this year and next year.

The brokerage firm says it now expects quarter over quarter growth in the second half of 2009 to reach 2.7%, a huge upward revision from its previous forecast of 1.4% growth, and well above consensus of 1.3% (although annual growth for 2009 is still expected to be -2.1%, a modest improvement from its previous -2.4% forecast).

While it admits that there is still plenty of pain to be felt — restructuring in the financial sector and households repairing their balance sheets — it now also sees growth emerging from numerous other sources. Notably, the firm says that various fiscal stimulus measures are likely to boost consumer spending, it sees a stabilizing housing market, stronger exports as growth revives in the rest of the world, and slower inventory reductions.

The firm has also revised its 2010 outlook notably higher, calling for GDP growth of 2.6% next year, up from its previous forecast of 1.8%. It cites inventory rebuilding, recovery in residential investment, and a turn in the employment picture as positive factors. Merrill expects the unemployment rate to peak at 10.5% in the second quarter of 2010, with increased hiring in the second half of the year.

“Despite our outlook for higher growth, the economy will continue to suffer from an enormous amount of slack that extends beyond our forecast horizon,” it notes. As a result, it expects that inflation will remain well contained over the next 12-24 months, and that the shift in inflation will begin in mid-2011. “On top of stronger growth, the Fed will begin to implement its exit strategy, thereby taking back some stimulus. We expect two rate hikes of 25 basis points each bringing the Fed Funds rate to 75 bps by end-2011,” it says.

IE