Signaling initiated by hypoxia and insulin powerfully alters cellular metabolism. The protein stability of hypoxia-inducible factor-1 alpha (Hif-1α) and Hif-2α is regulated by three prolyl hydroxylase domain–containing protein isoforms (Phd1, Phd2 and Phd3). Insulin receptor substrate-2 (Irs2) is a critical mediator of the anabolic effects of insulin, and its decreased expression contributes to the pathophysiology of insulin resistance and diabetes. Although Hif regulates many metabolic pathways, it is unknown whether the Phd proteins regulate glucose and lipid metabolism in the liver. Here, we show that acute deletion of hepatic Phd3, also known as Egln3, improves insulin sensitivity and ameliorates diabetes by specifically stabilizing Hif-2α, which then increases Irs2 transcription and insulin-stimulated Akt activation. Hif-2α and Irs2 are both necessary for the improved insulin sensitivity, as knockdown of either molecule abrogates the beneficial effects of Phd3 knockout on glucose tolerance and insulin-stimulated Akt phosphorylation. Augmenting levels of Hif-2α through various combinations of Phd gene knockouts did not further improve hepatic metabolism and only added toxicity. Thus, isoform-specific inhibition of Phd3 could be exploited to treat type 2 diabetes without the toxicity that could occur with chronic inhibition of multiple Phd isoforms.