Historically, northern peatlands have functioned as a carbon sink, sequestering large amounts of soil organic carbon, mainly due to low decomposition in cold, largely waterlogged soils(1,2). The water table, an essential determinant of soil-organic-carbon dynamics(3-10), interacts with soil organic carbon. Because of the high water-holding capacity of peat and its low hydraulic conductivity, accumulation of soil organic carbon raises the water table, which lowers decomposition rates of soil organic carbon in a positive feedback loop. This two-way interaction between hydrology and biogeochemistry has been noted(3,5-8), but is not reproduced in process-based simulations(9). Here we present simulations with a coupled physical-biogeochemical soil model with peat depths that are continuously updated from the dynamic balance of soil organic carbon. Our model reproduces dynamics of shallow and deep peatlands in northern Manitoba, Canada, on both short and longer timescales. We find that the feedback between the water table and peat depth increases the sensitivity of peat decomposition to temperature, and intensifies the loss of soil organic carbon in a changing climate. In our long-term simulation, an experimental warming of 4 degrees C causes a 40% loss of soil organic carbon from the shallow peat and 86% from the deep peat. We conclude that peatlands will quickly respond to the expected warming in this century by losing labile soil organic carbon during dry periods.