House prices increased by 1.0% in December and by 2.1% in the final quarter of 2005, confirming a modest recovery in prices during the latter part of last year, HBOS said in its Halifax house price report this morning.

The average price of a home was a seasonally-adjusted £171,632 in December, said the mortgage lender.

Despite the recovery since last summer, the annual percentage increase in house prices nationally in 2005, at 5.1%, was the smallest for 10 years and significantly below the long-term annual average of 8%. The annual rate of house price inflation slowed in all regions in 2005 with the exception of London where prices rose by 6.7% compared with a 3.9% rise in 2004. House prices increased by less than 10% in all nine English regions for the first time since 1998.

The recent pick-up in prices is entirely consistent with the improvement noted by all the main indicators of housing market activity over the past few months. The number of mortgage approvals to fund house purchase increased for the fifth successive month in November, according to the latest Bank of England figures. The most recent RICS survey reported the sixth successive monthly rise in new buyer enquiries for house purchases in November, marking the longest running period of increases since 2001.

Scotland delivered the biggest gains in house prices last year with a 14.8% rise: the first time that Scotland has recorded the strongest rises in the UK for 15 years. The next biggest increases in 2005 were in Northern Ireland (14.1%), North (9.1%), Yorkshire and the Humber (8.4%) and the North West (7.2%). Two regions recorded small falls during 2005 - East Anglia (-1.0%) and the South West (-1.9%) - marking the first regional annual house price falls since 2000.

Prices in Greater London increased by 3.6% in Quarter 4. This was the second successive quarterly rise in the capital, suggesting the beginning of a recovery following a fall between 2004 Quarter 3 and 2005 Quarter 2. The average price in London broke through the £250,000 barrier for the first time in Quarter 4 (£257,120).

A 326,000 increase in total employment and a 3.6% rise in average earnings over the past year, together with August's interest rate cut, have underpinned the recent improvement in house prices. Another year of below trend economic growth and the continuing high level of house prices in relation to earnings, however, should curb housing demand and prevent a renewed bout of high house price increases in 2006.

The housing market is expected to be flat in 2006 with modest nominal house price growth and no change in real terms. UK house prices are forecast to rise by 3%, broadly in line with the predicted rise in retail price inflation. The annual rate of house price inflation is expected to increase during the first half of 2006, potentially reaching a peak of 7 - 8% mid year as modest price rises compare with slight falls in early 2005. The annual rate is subsequently expected to fall as prices rise at a significantly slower pace than in the second half of 2005.