Crises in the arts would not have surprised either Samuel Johnson or his pupil, David Garrick.

In 1737 the two men walked from their native Lichfield, Staffordshire, to London to seek their fortunes. Garrick became the most famous actor of the day and Dr Johnson the only world-famous dictionary maker but neither ever had more than a precarious grasp on wealth.

What may have surprised them is that yesterday Lichfield launched a £5,000 literary prize and a £5.5m new theatre.

What will stun the arts community is that both the prize and the theatre are almost entirely funded by Lichfield district council.

Peter Longman, director of the Theatres Trust, which campaigns to protect theatres called it "an unusual and commendable initiative" which was "exceptionally rare" these days.

The Lichfield Garrick was designed by Short and Associates. The firm saved £2m by recycling the foundations and side walls of the old Civic Hall.

It opens at a time when local authorities all over the country are cutting grants with venues such as the Theatre Royal in Stratford, east London, facing programme cuts and redundancies and Leicester Haymarket about to go dark for up to a year.

Lichfield's 500-seat main theatre, a 200-seat studio space and three floors of combined foyer and gallery space were constructed with just £95,000 of lottery money for technical equipment.

A lottery bid for a more ambitious scheme failed and the council decided to build and run the theatre.

Sue Smith, deputy chief executive of the council, said: "We didn't get the money but we didn't get all the strings that would have come with it either, so we're best pleased this way."

The Lichfield prize, launched yesterday in the theatre by the novelist Beryl Bainbridge who will also be a judge, is for a first unpublished novel and the chance of publication by Time Warner.

Dr Johnson may have left his native town for London, but he remained proud of Lichfield. "I lately took my friend Boswell and showed him genuine civilised life in an English provincial town," he said.

However the history of theatre in Lichfield is patchy. David Garrick returned there for his first stage performance in The Recruiting Officer by George Farquhar.

The theatre where Garrick performed was demolished. It was replaced by the Theatre Royal which was demolished in the early 20th century and replaced by a theatre called the David Garrick.

When the actor Corin Redgrave became involved in the programming for the new theatre - in October he will play Dr Johnson in a contemporary play, Resurrection, and direct a new production of The Recruiting Officer - he discovered that his father, Sir Michael Redgrave, led the campaign in 1953 to save the Garrick, where Kenneth Tynan was artistic director.

It closed, became a branch of Kwik-Fit and was demolished 10 years ago.

The new theatre opened on Monday for a preview season with builders working in the background.

The current fortnight of Lichfield festival performances is virtually sold out, many nights in the Redgrave season are sold out and bookings are brisk for the Christmas pantomime.

The theatre's artistic director, Paul Everitt, said: "This part of England has no recognisable voice, and the very best way to give people a voice is through art. Lichfield has a noble literary history. It needed a theatre more than anything else on earth."

What Dr Johnson would made of the fate of the Lichfield oak is another matter. The studio theatre stands where the tree was, despite a 3,500-signature petition to save it.

· More information about the theatre and applications for the Lichfield prize at www.Lichfieldgarrick.com or 01543 412121.

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