A compressor with a capacity modulation system includes a compression chamber, a rotatable shaft within the compression chamber, and a roller mounted on the shaft in contact with a wall of the compression chamber. A suction channel is in fluid communication with the compression chamber for providing fluid at a suction pressure and a discharge channel is in fluid communication with the compression chamber for removing fluid at a discharge pressure. A re-expansion channel adjacent to the compression chamber has a first end forming a re-expansion port in the wall of the compression chamber. A re-expansion chamber is connected to the re-expansion channel. A valve disposed in the re-expansion channel is movable between a first position, in which the valve allows fluid communication between the compression chamber and the re-expansion chamber, and a second position, in which the valve prevents fluid communication between the compression chamber and the re-expansion chamber. The compressor operates in a reduced capacity mode with the valve in the first position, and in a full capacity mode with the valve in the second position. In one embodiment, the valve operates in response to a parameter internal to the compressor, such as fluid pressure. In another embodiment, the valve operates in response to a parameter internal or external to the compressor, such as temperature or fluid pressure. A further embodiment utilizes multiple re-expansion chambers to achieve varying levels of capacity reduction.