Ireland will be the first country in the eurozone to give a democratic verdict on the German-backed rules for the single currency after Dublin announced it would hold a referendum on the treaty.

The euro declined on foreign exchanges after the Irish prime minister Enda Kenny told the Dáil that the Republic's chief law officer had advised the cabinet that "on balance" a referendum should be held under the terms of the Irish constitution.

Kenny is now expected to fight for concessions from Brussels on the terms of Ireland's swingeing euro bailout as the price for heading off a potentially embarrassing electoral rejection of the "fiscal compact" tightening rules for the 17 eurozone members.

Ireland, which has twice rejected EU treaties, must hold a referendum on any international treaty that has an impact on the country's sovereignty. The plebiscite on the EU fiscal compact would have to be held by Easter and by June at the latest.

The taoiseach said: "It gives the Irish people the opportunity to reaffirm Ireland's commitment to membership of the euro, which remains a fundamental pillar of our economic and jobs strategy. More binding and enforceable fiscal rules as a result of ratification will be good for both Ireland and the wider eurozone, and will cement growing international confidence in Ireland's recovery."

Neil Mellor, of the bank BNY Mellon, said Dublin's announcement raised fresh doubts about the future of the single currency, even before the latest bailout for Greece has been released. "It's death by a thousand cuts," he said.

Kenny was elected with a promise of extracting a better deal from Brussels and the ECB over the terms of the Irish rescue package, first agreed in November 2010. Sony Kapoor, of Brussels-based thinktank Re-Define, said the Irish government should win the referendum, which will be held in the summer – but only if Dublin can show that it is getting a good deal.

"If you look at Ireland and where it is now, the government is probably going to package it in a way that makes it more saleable, and link it to continued support – but they will press for concessions from Brussels, and they should get them."

The taoiseach said he and deputy prime minister Eamon Gilmore were confident the Irish people would endorse the treaty, which will entrench tougher tax and spending rules, overseen from Brussels.

An Irish no vote would be unlikely to derail the fiscal compact because only 12 euro countries have to ratify it before it can be enacted. But as well as ruling out any future bailout for Ireland, a rejection would be politically explosive, raising fresh doubts about public support for the single currency.. News came as financial markets were braced for the scale of the European Central Bank's latest bailout for the cash-strapped eurozone banking sector.

The Frankfurt-based lender will today announce the take-up of its second so-called "Long-Term Repo Operation", which lends money to banks over three years at an interest rate of 1%.

The first round saw €500bn (£423bn) flow into the financial sector, some of which was recycled into buying up the bonds of Spain and Italy, helping to bring bond yields down to more manageable levels.

Tobias Blattner, euro economist at Daiwa Capital Markets, said lower than expected take-up this time around would cause the markets to question how effective the measure would be in delivering a fresh decline in yields; while a higher than expected number would suggest deep distress in the European banking sector.

"Anything that is in the corridor between €400bn and €600bn will send the best signal," he said.

News of the Irish referendum raised the spectre of the first Lisbon Treaty, which Irish voters rejected in 2008, throwing the entire EU reform programme into chaos, although after a series of amendments the Republic's electorate later endorsed a second treaty.

With the economy still deep in recession, unemployment running at 14% of the workforce and house prices down by half since their peak before the crisis, there are fears within the Fine Gael/Labour coalition that voters might use this latest referendum to punish the government.

A small but increasingly vocal public campaign has begun to call for debt relief for Ireland, including forcing losses on the holders of Irish banks' bonds.

The two governing parties and the main opposition party in the Dáil, Fianna Fáil will all urge a Yes vote. However, Sinn Fein, the United Left Alliance and a range of Independents will call for the treaty to be rejected.

Sinn Féin president and Louth TD Gerry Adams said he welcomed the announcement of the referendum but said it marked a failure for the government because he said the Fine Gael/Labour Coalition wanted to avoid such a vote. Adams said the EU treaty will not help recovery and will condemn people to austerity.

Fianna Fáil leader Micheál Martin said the Irish government should never have questioned the importance of holding a referendum. "How can you honestly expect the people to be happy with a situation where a treaty is important enough to save the euro, but not important enough for them to have a say?" he asked.

Another of the eurozone's bailed-out member, Portugal, received a thumbs up from the "troika" of the IMF, ECB and Brussels in their latest quarterly review of its austerity programme, which found that the crisis-hit economy is making "good progress".

But with GDP expected to contract by another 3.25% in 2012, the troika warned that "significant challenges remain".

With Greek bondholders agreeing to take heavy losses as part of its latest bailout, speculation has been mounting over whether Portugal or Ireland could also restructure their debts.