Much effort has been expended to improve irrigation efficiency and drought tolerance of agronomic crops; however, a clear understanding of the physiological mechanisms that interact to decrease source strength and drive yield loss has not been attained. To elucidate the underlying mechanisms contributing to inhibition of net carbon assimilation under drought stress, three cultivars of Gossypium hirsutum were grown in the field under contrasting irrigation regimes during the 2012 and 2013 growing season near Camilla, Georgia, USA. Physiological measurements were conducted on three sample dates during each growing season (providing a broad range of plant water status) and included, predawn and midday leaf water potential (ΨPD and ΨMD), gross and net photosynthesis, dark respiration, photorespiration, and chlorophyll a fluorescence. End-of-season lint yield was also determined. ΨPD ranged from −0.31 to −0.95 MPa, and ΨMD ranged from −1.02 to −2.67 MPa, depending upon irrigation regime and sample date. G. hirsutum responded to water deficit by decreasing stomatal conductance, increasing photorespiration, and increasing the ratio of dark respiration to gross photosynthesis, thereby limiting PN and decreasing lint yield (lint yield declines observed during the 2012 growing season only). Conversely, even extreme water deficit, causing a 54% decline in PN, did not negatively affect actual quantum yield, maximum quantum yield, or photosynthetic electron transport. It is concluded that PN is primarily limited in drought-stressed G. hirsutum by decreased stomatal conductance, along with increases in respiratory and photorespiratory carbon losses, not inhibition or down-regulation of electron transport through photosystem II. It is further concluded that ΨPD is a reliable indicator of drought stress and the need for irrigation in field-grown cotton.