Epithelial–mesenchymal interactions mediate prenatal lung morphogenesis and differentiation, yet little is known about their effects in the adult. In this study we have examined the influence of cocultured lung fibroblasts on rat alveolar type II cell differentiation in primary culture. Type II cells that were co-cultured with lung fibroblasts showed significant increases in messenger RNA (mRNA) levels of surfactant protein (SP)-A, SP-B, SP-C, and SP-D. Metabolic labeling and immunohistochemistry demonstrated that these mRNAs were translated and processed. Addition of 10^{− 7} M dexamethasone (DEX) to cocultures antagonized the effects of the fibroblasts on SP-A and SP-C, but significantly augmented the effects on SP-B; expression of SP-D was unaffected. Coculture of type II cells with lung fibroblasts also increased acetate incorporation into phospholipids 10-fold, which was antagonized by DEX. Keratinocyte growth factor (KGF) mimicked the effects of lung fibroblasts on SP gene expression, but KGF neutralizing antibodies only partially reduced the effects of lung fibroblasts. KGF increased acetate incorporation into surfactant phospholipids, and the addition of DEX augmented this response. Together, our observations suggest that epithelial–mesenchymal interactions affect type II cell differentiation in the adult lung, and that these effects are partially mediated by KGF.