Osborne to consult public about spending choices
Chancellor George Osborne has pledged a "fundamental reassessment" of the way government works as he outlined plans to involve the public in making cuts.
He said he wanted the "best people in their fields" from inside and outside government involved and a "wider public engagement exercise" over the summer.
He attacked Labour's "centre knows best approach" and record on borrowing.
Shadow chancellor Alistair Darling warned of "scaremongering" and said Labour acted to support the economy.
Mr Osborne has been explaining how the coalition government will make decisions on reducing public spending over a four-year period from 2011.
He said the new Office for Budgetary Responsibility would produce its first independent assessment of "the growth forecast and other forecasts" next Monday.
The Budget on 22 June will set out overall spending plans but he outlined plans for further consultation on the best way to make savings over the summer, ahead of the autumn spending review which will set limits for every department.
Every spending programme would face "probing questions", he said - including whether it was essential, could be done cheaper or could be delivered by the private or voluntary sector.
He pledged to involve people from inside and outside government in a consultation over the summer including think tanks, pressure groups and people working in front line services.
Civil servants as well as head teachers, police officers, nurses and others would be asked to contribute, he said.
"What we want to do is make sure that all political parties, that the brightest and best brains across Whitehall and the public sector, that voluntary groups, think tanks, trade unions that members of the public are all engaged in the debate and discussion about how collectively we deal with the problem - after all it is our collective national debt," he said.
A cabinet committee, dubbed a "star chamber" is to be set up to oversee the process would be staffed by ministers with smaller departmental budgets - with others being allowed to join when they had tackled their own allocation of funds.
BBC political correspondent Laura Kuenssberg said effectively ministers would be asked to sit in judgement on their colleagues and on the progress they were making.
Each secretary of state will be asked to appoint a minister with responsibility over the next three months for driving a "value for money agenda".
Mr Osborne said tackling the £156bn deficit was "the great national challenge of our generation".
He pledged to try to protect the most vulnerable and regions which have been heavily dependent on the public sector.
The chancellor suggested that under Labour PM Tony Blair departmental budgets were agreed between him and the then chancellor Gordon Brown and handed down to ministers.
"We are going to have a more collegiate approach," Mr Osborne said.
But the idea was criticised by SDLP MP Mark Durkan as an "Axe Factor approach to government".
And shadow chancellor Alistair Darling replied that unemployment was half that of the 1980s and repossessions were half those of the 1990s recession.
He said: "The reason our economy is growing and the reason our borrowing is coming down is because we in common with other countries, as part of an international consensus, were prepared to take action to save our economy going into recession - and every single one of those measures was opposed by him when he was shadow chancellor."
He also called for "reasoned and restrained" debate and warned about damaging investors' confidence.
"If you run around scaremongering and raising all sorts of fears it could have the perverse effect of turning markets against us," he said.
On Monday Prime Minister David Cameron warned said in a speech the economic situation was "even worse than we thought" and dealing with the deficit would affect "our whole way of life".
The Conservative-Lib Dem coalition government has already outlined plans for £6.2bn of cuts this financial year.
Meanwhile, in a parliamentary debate, former City minister Lord Myners said he had been frustrated by the "flawed thinking" on the economy among his colleagues in the Labour government.
He argued there was "nothing progressive" about running up huge public debt and urged the coalition to crack down on "considerable waste" in spending.
Financial Secretary to the Treasury Mark Hoban said Lord Myners had "admitted what we have been arguing all along" and his comments represented a "shocking indictment of the previous government's record".