Town halls and housing experts have fought for the freedom for years - to weaken the grip of big private developers – but the Treasury has resisted.
In her conference speech, the prime minister insisted her government was helping councils build more homes, but she admitted: “Something is still holding many of them back.”
“Solving the housing crisis is the biggest domestic policy challenge of our generation,” she told the audience. “It doesn’t make sense to stop councils from playing their part in solving it.
“So, today, I can announce that we are scrapping that cap. We will help you get on the housing ladder – and we will build the homes this country needs.”
Conservative sources confirmed that the cap would be scrapped in its entirety, potentially leading to an extra £1bn borrowing and building tens of thousands of new homes, but could not say when the change would be made.
The Local Government Association described the move as “fantastic”, pointing out that the last time house building was on the scale required now – in the 1970s – councils built 40 per cent of them.
“The government has heard our argument that councils must be part of the solution to our chronic housing shortage,” said Lord Porter, its Tory chairman.
“Councils were trusted to get on and build homes that their communities needed, and they delivered, and it is great that they are being given the chance to do so again.”
Ruth Davison, executive director at the National Housing Federation, said: “This is a very welcome decision by the government.
“For years, everyone who builds affordable homes – both councils and housing associations – have argued this cap on council borrowing puts the brakes on building more homes.”
And the housing charity Shelter suggested lifting the cap could lead to 27,500 new social homes being built each year, compared with just over 5,000 last year.
“Scrapping the borrowing cap lays down the gauntlet to local authorities to bring forward home-building plans – no more excuses,” said Polly Neate, its chief executive.
However, there will be concerns that local councils – after eight years of enormous funding cuts – will lack the capacity to build the homes expected.
The announcement came just hours after Liz Truss, the chief secretary to the Treasury, sparked anger with an extraordinary denial that town halls face cuts.
Labour was delighted, arguing that the prime minister was being forced to steal another policy from Jeremy Corbyn.
“The most significant policy announcement from Conservative conference is simply a rehash of a Labour policy announced at our conference in 2016,” said Matt Zarb-Cousin, the Labour leader’s former spokesman.
The prime minister’s housing announcement at last year’s party conference fell flat, when she failed to budge on council borrowing restrictions.
Instead, her aides acknowledged a £2bn cash injection would fund only 5,000 extra homes a year, between 2016 and 2021.
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