Alveolar type II (ATII) cells inhibit fibroblast (FB) proliferation in co-culture by releasing or secreting a factor(s) that stimulates fibroblast production of prostaglandin E₂ (PGE₂). In the present study, we sought to determine the factors released from ATII cells that stimulate PGE₂ production in fibroblasts. Exogenous addition of rat IL-1 to cultured lung fibroblasts induced PGE₂ secretion in a dose-response manner. When fibroblasts were co-cultured with rat ATII cells, IL-1 protein was detectable in ATII cells and in the co-culture media between days 8-12 of culture, correlating with the highest levels of PGE₂. Furthermore, under co-culture conditions, IL-1 gene expression increased in ATII cells (but not fibroblasts) compared to either cell cultured alone. Both in mixed species (human FB-Rat ATII cells) and same species co-cultures (rat FB and ATII cells), PGE₂ secretion was inhibited by the presence of IL-1 receptor antagonist (IL-1Ra) or selective neutralizing antibody directed against rat IL-1 (but not IL-1). Conditioned media from co-cultures inhibited fibroblast proliferation, and this effect was abrogated by the addition of IL-1Ra. Addition of keratinocyte growth factor (KGF), resulted in an earlier increase in PGE₂ secretion and fibroblast inhibition (day 8 of co-culture). This effect was abrogated by indomethacin but was not altered by IL-1Ra. We conclude that in this co-culture system IL-1 secretion by ATII cells is one factor that stimulates PGE₂ production by lung fibroblasts thereby inhibiting fibroblast proliferation. Furthermore, these studies demonstrate that KGF enhances ATII cell PGE₂ production through an IL-1 independent pathway.