The lungs are divided, both structurally and functionally, into two distinct components, the proximal airways, which conduct air, and the peripheral airways, which mediate gas exchange. The mechanisms that control the specification of these two structures during lung development are currently unknown. Here we show that beta-catenin signaling is required for the formation of the distal, but not the proximal, airways. When the gene for beta-catenin was conditionally excised in epithelial cells of the developing mouse lung prior to embryonic day 14.5, the proximal lung tubules grew and differentiated appropriately. The mice, however, died at birth because of respiratory failure. Analysis of the lungs by in situ hybridization and immunohistochemistry, using molecular markers of the epithelial and mesenchymal components of both proximal and peripheral airways, showed that the lungs were composed primarily of proximal airways. These observations establish, for the first time, both the sites and timing of specification of the proximal and peripheral airways in the developing lung, and that beta-catenin is one of the essential components of this specification.