The housing market will cool next year, according to most analysts. But given that most commentators’ predictions for 2006 were far too timid, households might be excused if they continue to expect another year of near double-digit growth

Halifax thought originally that house prices would rise in 2006 by 3 per cent, constrained by stretched affordability as the increasing cost of a property outstripped earnings growth. It edged this up to 5 per cent in the summer as the market gained speed before recording 9.6 per cent annual growth in November.

The lender’s initial reticence, however, appears positively exuberant when set against the forecast of Ed Stansfield, of Capital Economics. He predicted that prices would fall by 2 per cent in 2006 on the back of a weakening economy.

So what caused analysts to underestimate the market’s resilience and what lies behind their projections for 2007?

What appears to have thrown Mr Stansfield and his peers this year is that the economic fundamentals displayed far ruder health than forecast.

In January, the consensus predicted economic expansion of about 2.1 per cent during 2006. But growth is likely to be about 2.75 per cent and with it has come the higher levels of employment crucial to encourage homebuyers.

Mr Stansfield says: “The main reason the market has outperformed our forecast is that growth has been stronger than we had expected. Also, immigration has compounded the pressure on the housing stock.”

The rise in the population – boosted by the influx from Poland – has encouraged buy-to-let investors to purchase properties which may now be out of the reach of first-time buyers.

These investors do not yet appear to have been discouraged by the year’s two increases in interest rates.

However, Martin Ellis, chief economist at Halifax, warns that “people didn’t really notice the first one [in August] and the effect of the November rise and any further increases should come through next year”.

With this in mind, Mr Ellis says house price inflation for 2007 will fall back to 4 per cent, though “supply shortages should continue to support prices”.

Nationwide building society, his competitor in the mortgage market, is more bullish. Fionnuala Earley, Nationwide’s group economist, sees prices rising by between 5 and 8 per cent.

Indeed, she believes that the follow-through from a strong end to 2006 will see double-digit annual price inflation at the beginning of next year.

“However, increasingly poor affordability and likely cutbacks at the Bank of Mum and Dad will cause the rate of house price growth to move back into single digits in the latter part of the year,” says Ms Earley.

The Council of Mortgage Lenders is forecasting price rises of 7 per cent in 2007, and is bold enough to make a prediction for 2008, when it sees prices increasing by 5 per cent.

However, the CML says that rising prices “will stretch affordabilty even further” and this will cause activity in the market to slow down.

Usually more optimistic are the analysts working for estate agents, in particular those with a focus on the upper end of the market. But this time, perhaps because they have witnessed such stellar gains over the past year, they seem more subdued.

Savills expects prices to go up by 7 per cent next year while Liam Bailey, of Knight Frank, is forecasting price rises of 6 per cent, again led by London, as the financial centre continues to prosper.

Mr Bailey points out that the national average in 2006 was bolstered by very sharp price rises in the capital and the south-east, as the region enjoyed robust economic health and an influx of wealthy foreign buyers.

“The City directs the London market quite closely,” says Mr Bailey.

The latest FT House Price Index survey, for example, showed that prices in London climbed 12.7 per cent in the 12 months to October, while the most desirable areas such as Kensington and Chelsea have seen increases of about 20 per cent.

In contrast, prices in the east Midlands rose by just 3.1 per cent.

So where, apart from the south-east, are investors to find the hotspots next year? The Royal Institution of Chartered Surveyors – despite noting its index of affordabilty for first-time buyers is at its worst in 15 years – predicts that average prices will still rise by 7 per cent.

Rics picks out Scotland and Northern Ireland to deliver above-average house price growth, the latter boosted by the glowing Irish economy and also benefiting from a more benign political environment.

“The market, which is by and large driven by economic fundamentals, responded to their improvement with a marked upturn in 2006,” it adds.

The message is clear: if you want to gain an understanding of how the market will perform next year, be prepared to keep a close eye the latest projections for growth in gross domestic product.