* Q1 GDP revised up to 0.4 percent from 0.2 percent
* Annual growth raised to 1.2 percent, strongest since 2010
* Data seized on by ruling party as election nears (Updates with background, reaction, markets)
By Gavin Jones
ROME, June 1 (Reuters) - Italy's economy grew 0.4 percent in the first quarter thanks to firm domestic demand, national statistics bureau ISTAT said on Thursday, sharply raising a preliminary estimate and improving prospects for the full year.
Preliminary data issued last month pointed to gross domestic product growth of just 0.2 percent between January and March.
On a year-on-year basis, first quarter growth was revised up even more sharply to 1.2 percent from a previous estimate of 0.8 percent, posting its strongest reading since 2010.
The data was seized on by politicians from the ruling Democratic Party (PD) as proof that its policies were working as Italy gears up for an election due by May next year but which could come as soon as this autumn.
"These results are the product of the serious and rigorous work that we have done," said PD leader Matteo Renzi, who resigned as prime minister in December after losing a referendum over his proposals for constitutional reform.
ISTAT also raised its estimate of growth in the fourth quarter of last year. The revisions improve the prospects that the government of current Prime Minister Paolo Gentiloni will meet its full year 2017 growth target of 1.1 percent.
The GDP surprise boosted Italian stocks, with the Milan blue chip index up more than 1 percent, outperforming European shares.
In the first quarter, growth was driven by firm consumer spending and a large increase in inventories which offset a negative contribution from trade flows.
"The good news is that growth came from unexpected sources like consumer spending," said UniCredit economist Loredana Federico, who however also pointed out a "negative aspect" in a 0.8 percent quarterly fall in investments.
Federico said UnicCredit's full-year growth forecast of 1.0 percent may now be exceeded.
Italy's economy has been the most sluggish in the euro zone for more than a decade, and the government's 1.1 percent growth forecast for this year would again be only around half the average expected for the region as a whole.
However, the steep upward revision of GDP data is a first sign of so-called "hard" data, such as industrial output and GDP, beginning to reflect recently buoyant surveys of sentiment and activity levels among purchasing managers in the manufacturing and services sectors.
In the first quarter the euro zone as a whole grew by 0.5 percent from the previous three months and by 1.7 percent year-on-year, according to Eurostat data.
ISTAT said so called "acquired" growth at the end of the first quarter stood at 0.9 percent. That means that if there were to be no growth in the final three quarters of the year, full-year GDP would still rise 0.9 percent.
Prior to the revisions announced on Thursday, ISTAT had estimated 2017 acquired growth of just 0.6 percent. (Additional reporting by Elvira Pollina and Danilo Masoni; Editing by Alison Williams)