Targeted disruption of the homeobox gene T/ebp (Nkx2.1, Ttf1, Titf1) in mice results in ablation of the pituitary. Paradoxically, while T/ebp is expressed in the ventral diencephalon during forebrain formation, it is not expressed in Rathke's pouch or in the pituitary gland at any time of embryogenesis. Examination of pituitary development in the T/ebp homozygous null mutant embryos revealed that a pouch rudiment is initially formed but is eliminated by programmed cell death before formation of a definitive pouch. In the diencephalon of the mutant, Bmp4 expression is maintained, whereas Fgf8 expression is not detectable. These data and additional genetic and molecular observations suggest that Rathke's pouch develops in a two-step process that requires at least two sequential inductive signals from the diencephalon. First, BMP4 is required for induction and formation of the pouch rudiment, a role confirmed by analysis of Bmp4 homozygous null mutant embryos. Second, FGF8 is necessary for activation of the key regulatory gene Lhx3 and subsequent development of the pouch rudiment into a definitive pouch. This study provides firm molecular genetic evidence that morphogenesis of the pituitary primordium is induced in vivo by signals from the adjacent diencephalon.