Andrew Grice: George Osborne the octopus pulls the PM into troubled waters

Inside Westminster

More chairs! We need more chairs!" The cry went up in 10 Downing Street as the new Cabinet prepared to meet on Wednesday. The number of full cabinet members and other ministers "allowed to attend" had risen from 29 to 32 after the demoted Kenneth Clarke and Baroness Warsi were compensated with second-division status. It was a struggle to squeeze them all round the coffin-shaped table.

The final seat in this game of musical chairs went to the returning Liberal Democrat David Laws. He was not "allowed to attend" Cabinet when his post as an Education minister was announced on Tuesday but, after some last-minute arm-twisting by Nick Clegg, was let in by the time the Cabinet met.

Labour was wrong to dismiss the new line-up as "no change". Mr Cameron showed a ruthless streak that many Conservative MPs believed he did not possess. The atmosphere in some Whitehall departments has already changed after right-wing Tories were installed to change policy (Owen Paterson at Environment, Chris Grayling at Justice) or rein in Liberal Democrats (Michael Fallon to "mind" Vince Cable at Business and John Hayes to squash Ed Davey at Energy and Climate Change).

It was George Osborne's reshuffle as much as Mr Cameron's. The Chancellor was dubbed "the octopus" in Tory circles as his tentacles spread throughout Whitehall. Key allies were promoted, enemies sidelined – notably Justine Greening, pushed out of Transport after 10 months for defending too vigorously the Coalition's policy of opposing a third Heathrow runway. "Her only crime was to stand up to Osborne," one cabinet minister said.

It was, the Liberal Democrats judged, a reshuffle for the Tory party rather than the country. The big question is whether Mr Cameron was merely shoring up his position in his party or will now try to push through traditional Tory policies. Mr Clegg privately views the cabinet shake-up as both a danger and an opportunity. The danger is that the Coalition descends into never-ending rows as the Liberal Democrats veto right-wing proposals, undermining the third party's goal of showing that "coalition works".

The opportunity is that blocking a harsh "true blue" agenda could play well with the voters. But it will be a very difficult balancing act. Mr Osborne's demand for a further £10bn of welfare savings will be the crucial battleground. The Chancellor failed to get Mr Grayling promoted to the top job at the Department for Work and Pensions (DWP) when Iain Duncan Smith refused to move to Justice. Instead, Mr Osborne dispatched Treasury minister Mark Hoban,  to be No 2 at the DWP, another spy in the camp. Mr Duncan Smith will have an important ally in Mr Clegg, who was delighted to see him refuse to budge. Their views on welfare reform are similar. So is their opposition to the Treasury's proposed cuts, which they fear would harm the most vulnerable. In June, Mr Cameron floated controversial proposals, including time-limiting some benefits; scrapping housing benefit for under-25s; curbing handouts for single mothers with three or more children and regional benefit levels. Cameron aides believe welfare cuts are popular and polls do suggest opinion against claimants has hardened in the age of austerity. Although the Coalition will approve some limited welfare savings, Mr Clegg may prove to be Mr Duncan Smith's best friend. The Deputy Prime Minister will tell Mr Cameron to put his hardline proposals in the Tory manifesto for 2015.

Some natural Cameron allies fear that this week's apparent lurch to the right sets him on a dangerous path. He knows elections are won and lost on the centre ground and allies believe that harder-edged policies on welfare, law and order and human rights will boost the Tories' electoral prospects in 2015. But, like Mr Clegg, the PM faces a very difficult balancing act. Some Tory modernisers fear the reshuffle will set back his project to "detoxify" the Conservatives, making it easier for Labour to portray them as the "nasty party". It might be harder for Mr Cameron to appeal to the whole country in 2015 if he does not live up in office to the image he portrayed before the 2010 election – not least on green issues. The new Cabinet is not going to deliver his promise to be "the greenest government ever". Mr Osborne has killed that one. If voters think Mr Cameron's mask has slipped on the environment, they might take the same view on other issues like the NHS. That really would be toxic.

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