Benjamin Netanyahu spoke Sunday after the European Union's foreign policy chief criticized plans to build 800 new apartments and a military college on contested land, which the international community considers to be under Israeli occupation.
"We are not imposing any restrictions on construction in Jerusalem" Netanyahu told his Cabinet. "It is our capital."
A top aide to Palestinian President Mahmoud Abbas promptly accused Netanyahu of deliberately destroying prospects for peace.
The Israeli leader's comment "comes in the context of the continuing destruction of the peace process and the two-state solution," Nabil Abu Rdeneh said.
The fate of Jerusalem lies at the heart of the Israeli-Palestinian conflict. The Palestinians refuse to negotiate while Israel continues to build settlements in east Jerusalem and the West Bank, areas captured by the Jewish state in 1967.
Netanyahu has rejected the notion of partitioning the city.
Meanwhile, American academic Noam Chomsky made his first ever visit to the Gaza Strip, where he called on Israel to end its blockade of the territory run by the Islamic militant group Hamas.
Israel says it imposed the blockade to prevent Gaza militants from getting weapons.
Hamas is listed as a terror group by the U.S., EU and others because of its suicide bombings and other attacks against civilian targets like buses and restaurants that have killed hundreds of people.
Prime Minister Ismail Haniyeh issued a statement Sunday evening saying he met with Chomsky in the afternoon. According to the statement, the Hamas leader thanked Chomsky for his support of the Palestinians.
The octogenarian Chomsky, an ardent critic of Israel who was banned from the country in 2010, entered Gaza through neighboring Egypt to attend a linguistics conference. While there, he accused the U.S. of allowing the Jewish state to act with impunity for its continuation of the blockade, which Israel imposed after the militant Islamist Hamas group violently seized control of Gaza in 2007.
The restrictions on Gaza were loosened after an Israeli raid on a blockade-busting boat in 2009 killed nine Turkish activists, but there are still limits on movement, imports of raw materials, and exports.