House price growth is collapsing in London, says Capital Economics

House price growth in London is collapsing under the combined weight of stamp duty hikes, the high ratio of mortgage size to borrowers' incomes, and Brexit uncertainty, suggests a report by a research consultancy.

Capital Economics predicts house price growth in the city will fall from 12.1% in 2015 to zero in 2016, the lowest of all regions of the UK, before rising slightly to 1% in 2017 and 2% in 2018. That is according to its UK Housing Market Analyst report for the third quarter.

The Treasury has increased stamp duty on the most expensive homes and those which are "additional" to the buyer's main residence, hitting the buy-to-let market.

The economy has weakened around the EU referendum, in which voters backed Brexit, plunging the country into political and financial uncertainty. The City of London is particularly affected because it relies heavily on access to the European single market, which is now in doubt.

Moreover, mortgage multiples of incomes have risen sharply in London as the rapid growth in house prices over the past few years forced buyers to take on larger debt. The median loan-to-income multiple has increased from around 3.2 in 2005 to 3.9 in 2015.

The Bank of England has limited most mortgage lending to within a multiple cap of 4.5 times the borrower's income because of concerns the London market was overheating while interest rates were at historic lows. This cap, Capital Economics states, will constrain demand in London and hinder price growth in the city.

But the all-time low base rate of 0.5% at the Central Bank — which may yet be cut further to stimulate the economy — should support lending. "With the bank rate set to stay low and earnings growth set to exceed house price growth, both affordability and the house price to earnings ratio will improve gradually through to 2018 [in London]," said the report.

Headline house price growth for the UK will slow to 2% in 2016 from 4.4% the previous year, according to the firm. UK house price growth will hold at 2% in 2017 and rise to 3% in 2017.

But Capital Economics said this economic weakness should not translate into a recession, shielding the housing market from any disaster. "With no large rise in forced sellers, a price correction should be avoided," said the report.

It concluded: "A cooldown in the housing market will also have a knock-on effect on construction and rents. We expect housing starts to dip from 144,000 in 2015, to 136,000 this year [2016], before rising gradually back to 150,000 in 2018. And rental growth is also set to slow to 2.2% this year, before rising to 3.2% and 3.5% over the next two years."

Demand for new housing is estimated to be as much as 300,000 units a year. The protracted supply shortage has fuelled house price and rental growth in recent years. There were 142,890 housing completions in England and Wales in 2015, according to the Department for Communities and Local Government (DCLG), a 21% annual increase. New housing starts also rose, though more slowly. There were 143,560 starts, a 6% rise year-on-year.