In woody plants photosynthetic capacity is closely linked to rates at which the plant hydraulic system can supply water to the leaf surface. Drought induced embolism can cause sharp declines in xylem hydraulic conductivity that coincide with stomatal closure and reduced photosynthesis. Recovery of photosynthetic capacity after drought is dependent on restored xylem function, although few data exist to elucidate this coordination. We examined the dynamics of leaf gas exchange and xylem function in Eucalyptus pauciflora seedlings exposed to a cycle of severe water stress and recovery after re-watering. Stomatal closure and leaf turgor loss occurred at water potentials that delayed the extensive spread of embolism through the stem xylem. Stem hydraulic conductance recovered to control levels within 6 hrs after re-watering despite a severe drought treatment, suggesting an active mechanism embolism repair. However, stomatal conductance did not recover after 10 days of rewatering, effecting tighter control of transpiration post drought. The dynamics of recovery suggest that a combination of hydraulic and non-hydraulic factors influenced stomatal behaviour post drought.