Prisoners should be forced to work or go on training schemes while serving time, and any money earned should go to their victims, the Liberal Democrats have said.
Leader Menzies Campbell said the scheme would instill offenders with a sense of responsibility, improve their skills and ensure victims were properly compensated.
The idea is a key plank of the party's new law and order policies, which will form the basis of its campaign ahead of May's local elections.
The Lib Dems have always been seen as soft on crime, but launching the new five-point plan to cut crime, Sir Menzies said: "To fight crime effectively, we don't need to get tougher, we need to get smarter.
"A liberal approach to crime is an honest approach to crime. It is based on what works rather than what sounds good. It targets the offender rather than the innocent. And it has the courage to engage with the criminal and reform their behaviour."
Crime has fallen under Labour but violent crime has gone up, and today Sir Menzies said Tony Blair's record was about "tough talk and spectacular failure", saying that overall the government was guilty of "abysmal failure".
He also pulled no punches with the Conservatives, saying: "The party that traditionally favoured reactionary authoritarianism now has a leader who wants to hug a hoodie."
The Lib Dems have promised to beef up the sentencing system so "life means life", but argue non-violent offenders should not be jailed but instead be handed "rigorous community work".
"Shockingly, we live in a country where only one in every 100 crimes committed leads to a court conviction. Just one in every 100," Sir Menzies said.
"That means you are twice as likely to buy a winning lottery ticket as you are to be convicted in court of a crime that you have committed."
But while he promised to ensure the right people were locked up longer, the Lib Dem leader said something must be done to tackle the fact that half of criminals reoffend.
He promised his party would triple the number of prisoners working, make education and training compulsory and increase the provision of secure mental health services.
The Lib Dems would also scrap ID cards and use the money to pay for extra police on the streets, and amend the Licensing Act to give communities and councils greater power to close down pubs causing disruption.