"Overblown rhetoric" from ministers about bringing down immigration has contributed to a decline in overseas Stem degree students.
The cross-party Lords Science and Technology Committee said there was a contradiction between Prime Minister David Cameron and Home Secretary Theresa May's target of reducing net migration to the "tens of thousands" and efforts to increase the number of international students.
The number of students studying science, technology, engineering and maths (Stem) subjects – including courses such as medicine, architecture and computer science – has fallen by more than 10 per cent in two years from 58,815 in 2010/11 to 52,905 in 2012/13.
And the committee said some courses were under threat because they relied on the financial contribution made by overseas students to remain viable
"It was put to us on numerous occasions that it was not the immigration rules as such that were deterring students, but their perception of the rules as a result of overblown rhetoric from Ministers and sometimes inflammatory media coverage in the UK and in overseas countries," the peers said.
But the report said the evidence "pointed to difficulties beyond simply those of perception", with the "complexity and instability" of the immigration rules also posing problems.
"The UK's offer to prospective international students remains a good one; it is founded on academic excellence, but it has been diminished by perceived and real barriers so that the overall offer is not as competitive as it needs to be," the peers said.
The report noted that rival countries such as the USA, Australia and Canada were "working hard and successfully to attract students" and the peers called for overseas students to be separated from net migration figures, to take them out of the "toxic" debate on immigration.
The report said: "Including students, who bring so much to the UK economy, in the net migration figures, sees them used as a feedstock for an all too often highly politicised and sometimes toxic debate over immigration."
The Government has insisted that students needed to be counted within the migration figures to comply with international standards. The peers said students from outside the European Economic Area (EEA) make a cultural contribution but can also provide vital skills needed by the UK economy.
"The UK desperately needs engineers, for example, to help grow the economy," the peers said.
"It is self-defeating to have a system in place which deters international Stem students from contributing to UK PLC."
Ministers have set out plans to increase the number of international students by up to 20 per cent over the next five years, but the peers said: "The Government maintain that they emphatically welcome international students, unfortunately, elements of policy and perception are working against this admirable aim. The view within Government that current policies are working well is disconnected from the concerns we repeatedly heard."
Committee chairman Lord Krebs said: "We've seen over the last few years how international student numbers have fallen dramatically, in particular from India. As a result we're missing out on the talent, the economic and cultural contribution that international students bring when they come here to study, and our competitors are reaping the rewards.
"The overwhelming evidence that we received led us to conclude that changes to the immigration rules in this country have played a direct part in putting overseas students off from choosing the UK. The rules are seen as too complex and subject to endless changes, the visa costs are not competitive, and the rules relating to work after study are so limiting that prospective students are heading to the US, Australia, Canada and elsewhere.”
A Home Office spokesman said: "We do not accept that the UK's immigration rules are deterring international students and there is no clear evidence in the report to support that argument – where some courses and countries have seen falling numbers, other countries and courses are on the rise.
"The UK remains the second most popular destination for international higher education students and our universities saw increases of new enrolments from key markets, including China (+6 per cent), Malaysia (+3 per cent) and Hong Kong (+18 per cent) last year.
"The latest figures show a rise of 7 per cent for higher education visa applications in the last year and a 17 per cent rise compared to 2010, while applications for our world-class Russell Group universities have increased by 11 per cent in the last year.
"The student visa system we inherited was weak and open to widespread abuse. We are controlling immigration while still attracting the brightest and the best – as the published figures show."
But the Royal Academy of Engineering gave evidence to the committee that showed a significant drop in students coming to the UK to study masters courses in engineering since the major changes in visas in 2011.
According to the report, the total number of international STEM students choosing the UK as their destination fell by 8 per cent in 2011/12 and by a further 2 per cent in 2012/13, which has particularly affected engineering departments – the second highest recruiter of overseas students after business departments.
Professor Helen Atkinson, chair of the Academy’s Education and Training Committee and head of the Department of Engineering at the University of Leicester said: “Over the last two or three years there has been a constantly changing pattern of rules on visas.
“Even with my experience in the field, I myself sometimes find it hard to understand these changing rules and I think how hard it must be for potential students to keep track of them. The UK is sending out contrasting messages into a very competitive international market and, in general, conveying a sense of a generalised lack of welcome.”
“I am gratified that the Committee recognised these among other important issues and released recommendation to the government to right its course.”