At the Galway Arts Festival this year are four Australians who travelled over specially but will not see a single show. This is because Urban Dream Capsule - Neil Thomas, Andrew Morrish, Nick Papas and David Wells - are the event's flagship, 24 hours a day during the festival. Part of Galway City Library has been transformed into a living space to accommodate the quartet, who turn every aspect of their daily routine into a performance.

There are interactive elements, with the public invited to fax, e-mail or visit their website at www.urbandream.com, or hold notes up to the windows, which the Capsule reply to on message boards. The four also make plaster gnomes, which people can borrow for a day, provided they are returned with photographs of their adventures. "Daddy," asked one boy with his nose up against the window, "are them men being paid to be in there?"

At £80,000, "them men" are presenting the most expensive show of the festival, which cost £800,000 this year, with £233,000 of Arts Council funding. Listening to bystanders as they gathered each day in front of the library, it appeared many thought Capsule was a parody of the reality TV show Big Brother. The show was in fact devised as far back as 1996 and has been performed several times. Capsule has its fans, but whether it merited top billing and top funding is debatable.

One fan was the journalist and broadcaster Jon Ronson. He turned up to discuss The Secret Rulers Of The World, his recent Channel 4 television series based on his book, Them: Adventures With Extremists, with a borrowed gnome under his oxter. He answered with glee questions about his years spent interviewing some of the world's oddest and most powerful people.

Ronson had the audience howling at his black humour when he read an extract about his bizarre visit to Ku Klux Klan members in Arkansas who were on a public-relations course in the hope of improving their image.

Both of this year's main shows, Birdbrain and Storm, are hybrid productions that variously incorporate dance, acrobatics, aerial work and video. It was Australian Dance Theatre's first European performance of Birdbrain, an electrifying reworking of Swan Lake. Set on a starkly lit stage with virtually no props, the show was as crisply executed as a classic black-and-white film.

Technically excellent, whether using ballet, break-dance, acrobatics or contemporary dance, the performers also doubled as the set, wearing T-shirts with words such as "forest" and "lake". It reinterpreted the classic ballet in as clever, imaginative and fast-paced a way as the film director Baz Luhrmann retold Romeo and Juliet's story.

The Spanish dance company Increpaci≤n Danza, who use their bodies as percussion instruments, presented two shows. D.C. (Annus Domini) is their new show, based on the funeral structure of a Mass, but it failed to excite the same response as the award-winning Wad Ras, which played the following night. (See the review on this page of its performance at Dra∅ocht in Blanchardstown.)

Australian Dance Theatre and Increpacion, which staged experimental dance shows that on paper may have looked difficult to sell, sold out before they opened. Rose Parkinson, the festival's director, observed that the dance sell-outs were "an act of trust" by audiences in the programming. A survey last year found that a remarkable 70 per cent of the festival's audience are from Galway and environs, which means shows can expect unusually sophisticated audiences.

The overall festival box office made 70 per cent returns by the end of the first week, but many were left disappointed at not being able to get tickets, as both dance companies had very short runs, with only three performances of Birdbrain to audiences of 450. It seems as if the act of trust must now go both ways, with the organisers having faith in their audience.

The festival includes repeat programming from last year's big performers: Steppenwolf, Neil Thomas of Urban Dream Capsule and Increpaci≤n. "We wanted to build up a relationship with certain companies," explains Parkinson, who has a three-year programming plan for Steppenwolf and Thomas. "You get much more interesting work out of a company when you work with them over time ."

There is a problem, however. If audiences did not like a show last year, they may not risk a repeat visit, and therefore have less choice of shows the following year. Arts festivals should be seeking out new work, so audiences are challenged and surprised. Perhaps the organisers should trust more in their eye for good new productions.

In previous years, Birdbrain would have seemed an obvious show to programme at the Big Top in Fisheries Field, which held a seated audience of 1,300. Last year, the Silencio company brought its own tent, but this year the absence of a tented venue is striking. The Big Top provided a larger venue than the Black Box or Town Hall Theatre. There was also something alluring about seeing a show in a venue that appeared only at festival time; it added to the atmosphere.

Another deserved sell-out was Galway Youth Theatre's charming Promenade, a fine ensemble work. The company devised and beautifully choreographed Promenade under the direction of Ciarβn Taylor. Ostensibly set on Salthill's prom, it could have been the story of any seaside community, with its vignettes of dog-walkers, troubled lovers, joggers, babies in buggies, holidaymakers, slot machines and seaside landladies.

Druid Theatre Company, which aroused critical comment for not presenting a show of its own during the festival, presented Eoghan Dunne's Learning To Love Doreen Nolan, one of its Druid Debut series, which workshops new writing. The actress Noelle Brown did her best with a weak script in this dull and static monologue about the life of a cleaning lady.

On a very different scale to Birdbrain, but comparable highlights of the first week, were Indefinite Articles' enthralling shows, The Adventures Of Theseus and Dust. The English company, headed by Steve Tiplady, takes Greek myths as its starting pointto devise plays that use marvellously inventive storytelling methods.

With only the simplest of props - a ball of string, an overhead projector and dust - Tiplady created two beautiful and exciting works that had the distinction of wowing both children and adults.

The showcase concert at the Town Hall Theatre by the accordion player Mβirt∅n O'Connor was a classic gig, with up to 10 fellow musicians on stage to play with him, including surprise guest MaighrΘad N∅ Dhomhnaill, who sang two songs in her molten-gold voice. The following night, Ron Sexsmith played a seductively effortless set at the R≤is∅n Dubh, where the hugely popular lunch-time trad sessions were packed every day.

For only the second time, Macnas paraded at night, with the low-key but lovely Colours, a triple parade based on the themes of red, blue and yellow, with a huge drumming finale as the three colours fused. But its timing was questionable, as, unlike 1999's illuminated parade, the late Sunday-evening start added nothing visually and deprived many weekend visitors and young children of the traditional Macnas magic.

Little John Nee, who was MC for the Macnas finale, also presented his new show, DondΘ Esta Jesus Fahey?, a likeable shaggy-dog story of missing documents and unrequited love, sung and acted through the character of the musician Saul Hill, who was exceptionally well supported by his band, the Spanish Archers. Nee always has a sharply observed script on aspects of Galway, and his aside on its perceived destination as Ireland's party capital - "this town was brought to you by Guinness" - had the audience laughing in wry recognition.

Audiences were not laughing as they left The Anthology, by the Israel-based company Acco. This beguiling and disturbing show, in which the audience are plied with cognac and chocolates in their role as after-dinner guests, had Smadar Ya'aron telling stories of her life, singing and playing music from her position at the candlelit grand piano of her refined drawing room. Subversion is everywhere in this show. Handing out the brandy to her "guests", the Holocaust survivor makes sly racist comments about various nationalities, some of whom may well have been in the audience.

With the appearance of her son, Moni Joseph, the show becomes that most unlikely of scenarios: cabaret-style Holocaust after-dinner entertainment that relentlessly turns every emotional screw. In an inspired ending, the "guests" were asked to leave her home quietly, which had the confused audience shuffling out deeply discomfited. Depriving an audience of the ritual of applause was a powerful analogy of the way the normal manner of doing things disappeared during those unspeakable days of persecution.

With this week's big show, the aerial-based Storm, still to open, Steppenwolf's Traffic sold out, Fishamble's production of Ian Kilroy's The Carnival King continuing and a talk by the theatre producer Michael Kustow, among others, there's plenty ahead for festival-goers - unless you're sandwiched between books and the good burghers of Galway in an Urban Dream Capsule.

Galway Arts Festival continues until Sunday. Information and booking on 091-566577. Tomorrow, Ian Wieczorek assesses the festival's visual-arts programme