Sonic Hedgehog (Shh) signaling is essential during embryonic lung development, but its role in postnatal lung development and adult lung are not known. Using Gli1(nlacZ) reporter mice to identify cells with active Hh signaling, we found that Gli1(nlacZ)-positive mesenchymal cells are densely and diffusely present up to 2 weeks after birth and decline in number thereafter. In adult mice, Gli1(nlacZ)-positive cells are present around large airways and vessels and are sparse in alveolar septa. Hh-stimulated cells are mostly fibroblasts; only 10% of Gli1(nlacZ)-positive cells are smooth muscle cells, and most smooth muscle cells do not have activation of Hh signaling. To assess its functional relevance, we influenced Hh signaling in the developing postnatal lung and adult injured lung. Inhibition of Hh signaling during early postnatal lung development causes airspace enlargement without diminished alveolar septation. After bleomycin injury in the adult lung, there are abundant Gli1(nlacZ)-positive mesenchymal cells in fibrotic lesions and increased numbers of Gli1(nlacZ)-positive cells in preserved alveolar septa. Inhibition of Hh signaling with an antibody against all Hedgehog isoforms does not reduce bleomycin-induced fibrosis, but adenovirus-mediated overexpression of Shh increases collagen production in this model. Our data provide strong evidence that Hh signaling can regulate lung stromal cell function in two critical scenarios: normal development in postnatal lung and lung fibrosis in adult lung.