Proper use of the word "lousy"?

Is the sentence below correct?

The place is lousy with hippies

I looked it up on merriam-webster.com but they said that lousy was:

infested with lice

Close, but not quite there...

Your sentence,

The place is lousy with hippies

means the place is filled with undesirable or unwanted hippies. Here the meaning of being infested with lice is not used. You can look up in Oxford English Dictionary - here.

Therefore the sentence is correct.

The NOAD reports that lousy means also teeming with something regarded as bad or undesirable.
You can understand lousy as metaphorically referring to an infestation.

The town is lousy with tourists.

As others have said, probably the commonest meaning of lousy today is simply bad.

Ugh, the weather here is lousy.

However, the OP’s example is not quite this sense; it’s a figurative usage a bit closer to the original in meaning. Lousy with X is roughly equivalent to swarming with X, or more generally, well-supplied with X. It often implies that X’s are undesirable (as in the OP’s lousy with hippies), but not always:

Amazon is Lousy with Gaming Deals Today  —kotaku.com headline

The Random House Mavens’ Word of the Day has a nice little article on the matter.

I'm not sure what you think lousy means, but from your example phrase, it doesn't look like you think it means what I think it means!

In general usage, lousy means "of bad quality" or just plain bad.

In fact, I'd say that you'll find it is almost exclusively used with that meaning. If people are referring to something that is infested with lice, they are more likely to say "infested with lice", or "lice-infested", to avoid being misunderstood.

Because if you say, "my lousy son", people are more likely to think you are referring to his bad attitude than his bad hair...

(It's interesting to note that on this Merriam-Webster page, even though the 1st meaning is give as "infested with lice", all of the usage examples relate to the one I suggest above)

Edit, as @Ian points out in his comment below, the ambiguity would be written, because when speaking, one would differentiate between louSSy (with 'louses') and louZy (bad/'naff'). Nevertheless, I can't think of the last time I heard anyone say louSSy. (Re-edit read the comments)