The plan puts Toyota's pounds 1bn Burnaston factory in Derbyshire in prime position to build a third model to compete in the small car sector of the market against the likes of the Nissan Micra.
However, Toyota executives cautioned that the chances of the investment coming to Britain would be seriously jeopardised if Britain's increasingly Eurosceptic stand hampered its relationships with the rest of Europe.
Output from the Burnaston plant is due to increase from 117,000 this year to 200,000 a year from late 1998 when it starts production of a second Corolla-type model alongside the existing Carina E.
The increase in production will see the workforce rise from 2,300 now to 3,000. But if Burnaston is selected for a third model it would mean at least another 700 jobs and further investment of pounds 200m or more and come as a further vote of confidence in the British motor industry following Nissan's decision to build a third model in the North-east.
Alan Marsh, vice-chairman of Toyota Motor Europe, said: "We would like to develop the product range to include a Micra-sized car and ideally we would like to grow Burnaston but a company like Toyota never closes the door. We are always evaluating the European market and it is in our interests to look at other sites." The Burnaston plant is identical in configuration to Toyota's Kentucky plant in the US where production of the Camry and a people carrier called the Sienna is running at 400,000 a year.
Toyota's plan is to build 60 per cent of the cars it sells in Europe locally compared with 30 per cent at present.
Last year about 130,000 of the 412,000 cars it sold in Europe were built locally, nearly all of them Carina E cars from Burnaston.
The company, Japan's biggest car maker, plans to increase European sales to 600,000 by the turn of the century and wants more of those cars built in the same location as they are sold.
Further Japanese investment would help make up for Ford's decision to axe production of the Escort at its Halewood plant on Merseyside with the loss of 1,300 jobs.
Ford blamed the cuts partly on overcapacity but senior Toyota executives rejected this reasoning. "In terms of our sales plan we have a shortage of capacity," said Tatsuo Takahashi, managing director of Toyota Motor Europe.
However, Britain's relationship with Brussels will be a key factor as the timing approaches for a decision on where to locate the new plant.
Mr Marsh said: "If the Eurosceptics win the day and drive us to a referendum on Europe and the public vote to stay out that would have very severe consequences for a manufacturing company like Toyota."
The Japanese car maker declined to become embroiled in the row over the support given by leading British businessmen to key Labour policies.