U.K. Prime Minister David Cameron appears set to reshuffle his Cabinet after Parliament’s summer break. That’s a traditional displacement activity for battered British leaders, and Cameron readily qualifies: His Conservative government could use a reset.

Recent setbacks have weakened Cameron at a time when severe tests lie ahead for his government. He leads a coalition -- unusual in British politics -- and his Liberal Democratic partners are talking rebellion. The Tories’ public support has fallen, and the Labour Party, written off for dead after the recession began on its watch, shows signs of life. Meanwhile, economic policy, constitutional reform and the future of the U.K. in Europe all demand decisive action.

The economy is the most pressing issue. Cameron’s Tories, alarmed by the country’s surging budget deficits, made fiscal austerity their main response to the British recession. The policy was brave and more defensible than critics allow: Further fiscal expansion is a riskier proposition for the U.K. than for the U.S., which is in the happy position of being able to print the world’s main reserve currency. Nonetheless Cameron overdid it, aiming for too much austerity too soon. The recovery stalled, and a shrinking tax base has made a mockery of the Tories’ fiscal targets.

Fiscal Space

Today the International Monetary Fund -- whose middle name is fiscal conservatism -- called on the U.K. to adopt “more expansionary demand policies,” and said the pace of planned fiscal tightening will need to slow if the Bank of England’s recent moves to spur credit don’t work. “The U.K. has the fiscal space to make such adjustments,” the IMF said.

A course-correction rather than a U-turn is called for. The government has just announced added support for infrastructure spending, mainly in the form of loan guarantees. That’s good, but too timid: public-spending constraints, more than lack of financing, are holding up feasible projects. Cameron should ease those constraints in the short term, while affirming his commitment to longer-term fiscal control.

The expected Cabinet reorganization could help. A cautious fiscal relaxation would be easier to do if George Osborne, chancellor of the exchequer, and William Hague, foreign secretary, were to swap jobs. Hague is less tied to the government’s flawed fiscal policy.

The center-left Liberal Democrats are unlikely to oppose greater fiscal flexibility. The disagreements they have with their Tory partners on constitutional reform and Britain’s place in Europe will be harder for Cameron to manage. When Nick Clegg, deputy prime minister and the Liberal Democrats’ leader, allied his reluctant party with the Tories, he and his supporters believed that constitutional reform would be the prize. They were wrong.

First, the party’s hopes for electoral reform came to nothing when a proposal to change the voting system was heavily defeated in a referendum last year. Then, this month, a promised reform of the House of Lords to create a mostly elected second chamber was scuppered by a Tory backbench revolt. Rather than risk a humiliating parliamentary defeat, Cameron chose not to put it to a vote.

The issue hasn’t gone away and isn’t likely to. Rank and file Liberal Democrats are asking why they joined the coalition in the first place. They’re threatening to retaliate against the Tories by blocking plans for changes to constituency boundaries that might give the Conservatives 20 more seats in a future vote. All that binds the partners together between now and the next election -- in 2015 at the latest -- is their dismal standing in the opinion polls. An early election, which would follow if the alliance collapsed, is an outcome both sides dread yet looks increasingly possible.

Suffering Allies

Cameron should try harder to bring his party around to reform the House of Lords. It’s a worthy cause, even if only to remove the last of the hereditary peers, the worst anomaly in Britain’s constitutional arrangements. Cameron owes his long-suffering allies some payback, and he’ll need their help on the third and most momentous issue he must confront: The U.K.’s place in Europe.

Cameron’s party is divided on this unending controversy. A significant Tory faction blames the country’s economic troubles on the European Union. These MPs support a referendum on the terms of British membership in the EU, and perhaps on whether the U.K. should be in or out. Cameron, by Tory standards, is a Europhile. He has said he would never campaign for the U.K. to leave the EU, though he favors the idea of an adjusted settlement. A renegotiation of the U.K.’s membership terms would make sense if the euro-area countries move closer to political union -- as they may have to -- and a two-speed EU is the result.

In pressing for the U.K. to remain a fully engaged member of the EU, Cameron would benefit from having Clegg and his instinctively pro-European party as allies. So far, the Liberal Democrats have almost nothing to show for their pact with the Tories. Cameron would be smart to change that, for Britain’s sake, as well as his own. It’s something for the prime minster to think about as he choreographs the coming round of musical chairs.

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Today’s highlights: the editors on California’s model maternity-leave program; Stephen L. Carter on lying politicians; William Pesek on the loss of faith in bankers; Virginia Postrel on economic segregation; Amity Shlaes on how states can remake the tax system; Jonathan Weil on the Barclays Libor-rigging settlement; Robert Boxwell on one banker’s exemplary testimony to the U.K. Parliament; Nell Minow on the U.S.’s budding shareholder revolt over excessive corporate pay.

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