Liver fibrosis is a wound-healing response to chronic injury of any type and is characterized by a progressive increase in deposition of extracellular matrix (ECM) proteins, the major source of which are activated hepatic stellate cells (HSCs). Because the LIM homeobox gene Lhx2 is expressed in HSCs and liver development in Lhx2^–/– mice is disrupted, we analyzed liver development in Lhx2^–/– embryos in detail. Lhx2^–/– embryos contain numerous activated HSCs and display a progressively increased deposition of the ECM proteins associated with liver fibrosis, suggesting that Lhx2 inhibits HSC activation. Transfection of Lhx2 cDNA into a human HSC line down-regulates expression of genes characteristic of activated HSCs. Moreover, the Lhx2^–/– liver display a disrupted cellular organization and an altered gene expression pattern of the intrahepatic endodermal cells, and the increased deposition of ECM proteins precedes these abnormalities. Collectively these results show that Lhx2 negatively regulates HSC activation, and its inactivation in developing HSCs appears therefore to mimic the signals that are triggered by the wound-healing response to chronic liver injury. This study establishes a spontaneous and reproducible animal model for hepatic fibrosis and reveals that Lhx2 expression in HSCs is important for proper cellular organization and differentiation of the liver.