Derby's Conservative government fell and Parliament was dissolved in the wake of Disraeli's failed attempt at a second reform bill in 1859. The Conservatives gained seats in the subsequent election, but their opponents gained cohesion: the Liberal party in its modern form was organized. The new party unified Whigs, Radicals, and Peelites, but it did not, at first, include Gladstone. He had voted in the minority for both the Reform Bill (though he, along with Palmerston, opposed extending the franchise) and for the failed Conservative attempt to form a government after the election. Yet the Liberals were eager to have him, because his oratorical talents made him too dangerous in the opposition. Gladstone, for his part, found common ground with Palmerston over the desirability of Italian independence from Austria, and agreed to become Chancellor of the Exchequer. It was a partnership that worked well, according to Jenkins, partly because Palmerston and Russell were so old (so that Gladstone's ambition for leadership would not be held back for too long), and partly because Palmerston was enough Gladstone's equal to provide a stabilizing counterbalance.
Gladstone's first budget after returning to the chancellorship passed with ease in 1859, despite a near doubling of the rate of income tax. There was more of a struggle over the 1860 budget. In the first place, this came from Palmerston's (and Herbert's) desire to expand military spending, especially for coastal fortifications. Gladstone resisted, and was not above stalling the armament plans by remaining absent from cabinet meetings when he looked likely to lose the argument. A treaty with France to cut customs duties -- worked out in collaboration with the radical Richard Cobden -- caused further opposition from affected interests. This treaty was made part of an overall effort to eliminate duties on nine-tenths of the items still subject to it. The biggest ruckus was actually caused by the repeal of paper duties. This was passed by the Commons, but rejected by the Lords -- with Palmerston's encouragement. The small additional increase in the income tax caused little controversy, however.
Due to the paper duty dispute and other issues on which Palmerston and the party leadership abandoned him, Gladstone came close to resigning. But, crucially for his career, he didn't.