Dunne clashed with assistant manager Garry McAllister over tactics in a training session last month, although this has been played down by Houllier.
He said: "Dunne is back because his performances have improved in training.
"He was never out of the team because of some bust-up I was reading about.
"He had a word which lasted half a second with Macca (McAllister). I took him out of team because he was under performing and he was not the only one.
"I have watched all the training he has done and I think I'll give him the chance."