German business morale brightened in January as Europe's largest economy started the new year with easing inflation and an improved outlook, a survey said today.

The Ifo institute said its business climate index rose to 90.2, in line with consensus according to a Reuters poll of analysts and up from a reading of 88.6 in December.

"The German economy is starting the new year with more confidence," Ifo's president Clemens Fuest said.

The increase is driven by considerably less pessimistic expectations, while companies were, however, somewhat less satisfied with their current situation, Ifo said.

"There probably won't be a recession, but GDP could shrink slightly in the first quarter," Ifo's economist Klaus Wohlrabe said.

Franziska Palmas, senior Europe economist at Capital Economics, noted that present conditions remained challenging.

"The fall in its current conditions index is a reminder that the economy is not out of the woods yet," the economist said.

The euro zone largest economy is expected to narrowly avoid recession this year with price-adjusted growth of 0.2%, according to the German government's annual economic report seen by Reuters today.

"The reason for this resilience is not so much the structure of the economy but rather a simple policy recipe that the German government has successfully used over the last 15 years and perfected recently: fiscal stimulus," said Carsten Brzeski, global head of macro at ING.

Lower wholesale gas prices and the reopening of the Chinese economy have also boosted economic confidence, he said.

"However, the fact that the German economy seems to have avoided the worst doesn't automatically mean the outlook is rosy," Brzeski said.

"The Ifo business climate has recovered significantly for the third time in a row as the easing on the gas market further diminished companies' fears of a severe recession," Commerzbank's chief economist Joerg Kraemer said.

However, the index is still at a level at which recessions have regularly occurred in the past, he added.