Background: Islet transplantation has shown great success in the treatment of type 1 diabetes. However, it still has two major problems to overcome, namely donor shortage and the side effects of immunosuppression. Encapsulated islets have emerged as a potential option on islet transplantation because it can, at least partly, overcome these two problems. Methods: After making PVA macro-encapsulated islets, recovery rate, insulin content, insulin secretion test, and morphological changes in culture with/without fresh human plasma were evaluated in vitro. PVA macro-encapsulated rat islets were transplanted into the peritoneal cavity of STZ-diabetic mice and rats. We observed blood glucose, body weight, survival rate, blood urea nitrogen (BUN), creatinine (Cr), and performed histological assessment in vivo. Results: After 14-day culture, the encapsulated islets, maintained a normal morphology and better insulin secretion in response to high glucose. Addition of fresh human plasma into the culture medium destroyed free islets in 48 hours but did not affect the morphology and insulin content of PVA macro-encapsulated islets. After transplantation to diabetic mice and rats, encapsulated islets decreased blood glucose levels, prevented weight loss and improved the survival rate in comparison to the negative control groups. The BUN and Cr levels were also decreased significantly after 1 week in the PVA group with amelioration of ketosis. Conclusions: PVA macro-encapsulated islets can protect islets against discordant immunorejection, and ameliorate hyperglycemia, ketosis and diabetic renal dysfunction in STZ induced diabetic mice and rats.