A man shot dead by police after he attacked people in south London had been recently released from prison after serving time for terror offences.
He was under active police surveillance at the time of the attack, which police believe to be an Islamist-related terrorist incident.
He had a hoax device strapped to his body, police said.
Three people were injured, with one person in a life-threatening condition.
Prime Minister Boris Johnson said the government would announce further plans for "fundamental changes to the system for dealing with those convicted of terrorism offences" on Monday.
Gunshots were heard on Streatham High Road just after 14:00 GMT on Sunday.
Reports suggest a man entered a shop and started stabbing people. It appears he then left the shop and stabbed a woman.
Witnesses reported hearing three gun shots and seeing a man lying on the ground outside a Boots pharmacy, as armed police approached and shouted at those nearby to move back.
The attacker had been released from prison at the end of January, after serving half of his three year sentence.
The BBC's Daniel Sandford said the events appeared to unfold after witnesses saw an unmarked police car pull in front of another car near Streatham Common, forcing it to stop.
He said this could be linked to the subsequent stabbings and police shooting and it was possible somebody was stopped, before being followed by undercover officers.
London Ambulance Service said it treated the three people for injuries at the scene and all were taken to hospital.
Of the other two, one had minor injuries, believed to have been caused by glass following shots from the police firearm, and the third person's condition was not life-threatening.
In a statement, Deputy Assistant Commissioner Lucy D'Orsi said armed officers were in "immediate attendance" and shot a male suspect, as part of a "proactive Counter Terrorism operation".
The situation has been contained and officers from the Met's Counter Terrorism Command are now leading an investigation into the incident, she said.
Streatham High Road remains closed and a cordon is in place, with enhanced police patrols in the area.
Eyewitness Gjon Kathegjolli said he was in a barber shop when he heard a woman, who was with a baby in a push chair and two young boys, scream and saw her being stabbed.
A man then walked past carrying a knife the size of his forearm, he said.
Another eyewitness told the PA news agency: "I was crossing the road when I saw a man with a machete and silver canisters on his chest being chased by what I assume was an undercover police officer."
Daniel Gough said he was out for a run when he heard shots and everyone ran.
"There was panic, people were yelling," he said. "A young girl running alongside me kept asking 'Is this what I'm meant to do?' - she was very distressed.
"I saw a policeman and he yelled, telling everyone to get back. His gun was pointing in the direction of a man on the floor.
"Suddenly, more police appeared. There were [officers] everywhere".
Adam Blake, who was walking along Streatham Common, described how he saw two or three cars crash into each other, including an unmarked police car, as the incident unfolded.
"Another police car carried on towards the hill pursuing someone," he told the BBC.
By BBC home affairs correspondent Tom Symonds
Videos shot by eyewitnesses show several plain-clothed police officers pulling on police caps while pointing their weapons at the dying suspect.
Another apparent surveillance officer on a motorbike pulls up and colleagues attempt to clear the street.
In today's incident, onlooker videos suggest the police only spot the man's hoax device after he has been shot and they approach him.
The swift response of these officers has almost certainly saved lives but there will be inevitable questions about the operation.
It has not been confirmed they were specifically following the man but they appear to have reacted fast when he started attacking people with a knife.
Counter-terrorist police and MI5 have around 3,000 so called "subjects of interest" at any one time but a much smaller number are under round-the-clock surveillance because it takes a huge team of specialist officers to watch a suspect covertly.
This means that preventing terrorism is all about taking difficult decisions. Which suspects should be watched? What level of risk do they pose and when is the best time to make an arrest, given the need to capture real evidence?
Those decisions have become harder in recent years as would be attackers are increasingly likely to act alone and to use low-tech weapons, sometimes on a whim.
Prime Minister Boris Johnson tweeted that his thoughts were with the injured and others affected. He thanked emergency services for their response.
Streatham's Labour MP Bell Ribeiro-Addy said: "It is scary, I feel that fear, but Streatham is a very resilient community and we'll be fine."
Mayor of London Sadiq Khan said: "Terrorists seek to divide us and to destroy our way of life - here in London we will never let them succeed."
Labour leader Jeremy Corbyn said his thoughts were with those affected and thanked emergency services "for their dedication and quick response".
Police are appealing for information, images and footage of the incident which can be shared via www.ukpoliceimageappeal.com or on 0800 789 321.