Nationwide: Biggest house prices drop in three years

But the market has shown "resilience" compared with some other countries, despite the 2.6% annual drop taking average prices to £164,389 in July, it adds.

UK house prices are 13% below their 2007 peak, but this is still less than the falls seen in the United States and Spain, which have seen drops of around a fifth relative to their peak.

Typical prices fell by 0.7% in July, the fourth drop in five months.

Nationwide says the Bank of England's new "funding for lending" scheme, which launches today, could give a boost to the housing market, but with the eurozone crisis continuing, Nationwide expects to see only a "modest recovery" in the coming months.

The latest research comes after the British Bankers' Association found mortgage approvals slumped to their lowest number in at least 15 years in June.

Lenders have also been tightening their borrowing criteria and while there have been signs of increased competition to attract people with larger amounts of equity, borrowers with lower deposits are expected to have a tougher time finding a mortgage in the coming months.

Robert Gardner, Nationwide's chief economist, says: "While prices are currently 13% below their 2007 peak, this is less than the declines seen in a number of other economies that have experienced similar or more robust economic recoveries."

Funding for Lending scheme

The £80 billion initiative to kick-start bank lending was fired into action today in the latest attempt to boost the struggling economy.

The Bank of England and Treasury's Funding for Lending scheme will make money available to banks on the condition they pass it on to businesses and households in the form of cheaper loans and mortgages.

At a time when banks face a worrying new phase in the credit crisis, Chancellor George Osborne says the scheme will help ease credit conditions throughout the economy.

Mortgage experts have already attributed a cut in the cost of five-year fixed rate deals to the scheme.

Andrew Montlake, from broker Coreco, says: "We have already seen some quick wins in the mortgage market and I suspect we will see a further increase in product availability and associated further cuts in pricing, especially as this scheme has undoubtedly helped Libor and Swap rates [money market rates upon which mortgage rates are partly based] to fall further in recent days.

"With five-year rates having fallen dramatically and now available from an extraordinary 2.95%, it is easy to get carried away, however this needs to be channelled towards those who are finding it difficult to obtain mortgages, such as first time buyers with smaller deposits."