In this dissertation research, a water bioremediation system which utilizes silica gel encapsulated biodegrading (biotransforming) bacteria was developed. Towards achieving this goal, both fundamental and practical scientific contributions were made. Novel silica gel compositions were developed for encapsulation of bacteria. The resulting bioreactive materials were characterized in terms of the cytocompatibility of the encapsulation process, and the physicochemical properties of the material. Feasibility of the process (e.g. material cost, temporal stability) was also evaluated to enable scale-up. An engineering model of a typical bioreactor utilizing the bioreactive material was developed for efficient utilization of the encapsulated bacteria. Design parameters such as material geometry, size and bacteria density encapsulated in the material were optimized using the developed biotransformation/transport model. Characterization experiments also revealed that alcohol treatment of E. coli cells expressing a catalytic enzyme (AtzA) can improve biotransformation activity up to a critical alcohol concentration, which was attributed to the enhanced membrane permeability of the cells. This was verified by comparing the biotransformation activities of bacteria with intact cell membranes and bacterial enzyme extract obtained via sonication. Long-term storage of the material at different temperatures, desiccation levels, and with various lyoprotectant solutions (sucrose, trehalose, glycerol) was studied to facilitate commercial use. By partial desiccation up to a critical water loss level, both the activity of the encapsulated cells and mechanical properties of the material were significantly improved. Large-scale synthesis methods were investigated to eliminate the diffusion barrier of substrates to cells and enable industry scale production of the material. Optimal operating conditions were determined to synthesize PVA/silica core-shell nanofibers with encapsulated bacteria via electrospinning. Based on the generated expertise in this research, a novel application was developed via encapsulation of synergistically working bacteria in an optically transparent silica gel matrix. In this system, heterotrophic bacteria performed aerobic biotransformation reactions while phototrophic cyanobacteria provided the required oxygen via photosynthesis. This self-sustaining system was shown to be more effective for oxygenation than external supplementation of oxygen, which was attributed to the homogeneous and proximate distribution of the cells in the matrix.