* German GDP shrinks 3.8 percent in first quarter of 2009
* Decline driven by sharp falls in exports, investment
* Germany outperformed by euro zone peers France, Italy
(Adds quotes, European Commission forecasts, background)
By Noah Barkin
BERLIN, May 15 (Reuters) - German gross domestic product (GDP) plunged 3.8 percent in the first quarter of 2009, a record contraction that exposed the country's export-dependent economy as one of the weak links of the 16-nation bloc that shares the euro.
The Federal Statistics Office said the quarter-on-quarter drop, easily the worst since German reunification in 1990, was led by a sharp decline in exports and a drop-off in investment.
France and Italy, the second and third biggest economies in the euro zone after Germany, also reported contractions in first quarter GDP on Friday, but at 1.2 and 2.4 percent respectively, they were not nearly as steep.
"This is a dramatic plunge and a worse start to the year than we could have imagined," said Juergen Michels, an economist at Citigroup in London.
The euro fell nearly half a cent against the dollar and German government bond futures ticked higher on the GDP drop, which was much more profound than the 3.0 percent contraction predicted by economists in a Reuters poll.
The world's biggest exporter of goods since 2003, Germany is suffering more than other advanced economies from a collapse in foreign demand.
Among G7 countries, only Japan is expected to suffer as deep a recession this year. Within the euro zone, Ireland is the only country where GDP is likely to fall more than in Germany.
Chancellor Angela Merkel's government has pushed through two stimulus packages worth 81 billion euros to counter the worst downturn since World War Two.
But she has resisted pressure from allies like the United States and Britain to do more, partly because of worries about Germany's budget.
After working hard to erase the deficit in its first three years in office, her government now expects it to balloon to close to 4 percent of GDP this year and 5 percent in 2010 -- far above the EU's 3 percent ceiling.
Merkel is vowing to pursue tax cuts after the Sept. 27 election, but her Finance Minister Peer Steinbrueck, a member of the rival Social Democrats (SPD) has called her plan "illusionary" and members of her own party are also balking.
LAYOFFS LOOM
Berlin slashed its forecast for full year GDP late last month and now expects a 6 percent contraction, led by an expected plunge in exports of nearly 19 percent.
It is predicting meagre GDP growth of 0.5 percent next year, but some experts believe that may be optimistic given that German companies are expected to lay off hundreds of thousands of workers next year.
"After the export-led recession we will have a domestic-driven recession," said Johannes Mueller, a strategist at DWS Investments, an arm of Deutsche Bank and the country's largest mutual fund company. "It's going to get uncomfortable."
The first quarter contraction was the fourth in a row, the first time since reunification that the German economy has suffered so many consecutive quarters of negative GDP.
It weighed down euro zone GDP, which according to preliminary data released after the German figures, shrank by 2.5 percent -- also far weaker than forecast.
The European Commission expects the euro area to contract by 4.0 percent this year, with German GDP falling 5.4 percent, France dipping 3.0 percent, Italy 4.4 percent and Spain 3.2 percent. Irish GDP is expected to slide 9.0 percent.
Despite the bleak start to the year, some policymakers and private sector economists are confident the German economy has seen the worst and will start to improve, albeit slowly, towards the middle of the year.
Economic sentiment indicators have pointed to a brighter outlook for several months and German manufacturing orders and output data released earlier this month were also positive.
"The worst is behind us," said Deutsche Bank chief Economist Norbert Walter, whose forecasts for the German economy have been among the gloomiest. "I can't believe we'll see another contraction of this magnitude," he told Reuters.
Government subsidies that encourage Germans to trade in old cars for new ones have cushioned the blow to the economy and fuelled a sharp rise in auto purchases in recent months.
Still, German companies across a broad range of sectors continue to suffer.
The German chemicals industry said on Thursday it faced its
worst slump since the mid-1970s. German retail group Arcandor