The liver is a unique organ with a remarkably high potential to regenerate upon injuries. In severely damaged livers where hepatocyte proliferation is impaired, facultative liver progenitor cells (LPCs) proliferate and are assumed to contribute to regeneration. An expansion of LPCs is often observed in patients with various types of liver diseases. However, the underlying mechanism of LPC activation still remains largely unknown. Here we show that a member of the fibroblast growth factor (FGF) family, FGF7, is a critical regulator of LPCs. Its expression was induced concomitantly with LPC response in the liver of mouse models as well as in the serum of patients with acute liver failure. Fgf7-deficient mice exhibited markedly depressed LPC expansion and higher mortality upon toxin-induced hepatic injury. Transgenic expression of FGF7 in vivo led to the induction of cells with characteristics of LPCs and ameliorated hepatic dysfunction. We revealed that Thy1+ mesenchymal cells produced FGF7 and appeared in close proximity to LPCs, implicating a role for those cells as the functional LPC niche in the regenerating liver. These findings provide new insights into the cellular and molecular basis for LPC regulation and identify FGF7 as a potential therapeutic target for liver diseases.