The Drosophila gene Serrate encodes a transmembrane protein with 14 EGF-like repeats in its extracellular domain. Here we show that loss-of-function mutations in this gene lead to larval lethality. Homozygous mutant larvae fail to differentiate the anterior spiracles, exhibit poorly developed mouth-hooks and show a severe reduction in the size of the wing and haltere primordia, which is not due to cell death. The few homozygous mutant escapers that pupariate develop into pharate adults that almost completely lack wings and halteres. Clonal analysis in the adult epidermis demonstrates a requirement for Serrate during wing and haltere development. Targeted ectopic expression of Serrate in the imaginal discs using the yeast transcriptional activator Gal4 results in regionally restricted induction of cell proliferation, e.g. the ventral tissues in the case of the wings and halteres. The results suggest that the wild-type function of Serrate is required for the control of position-specific cell proliferation during development of meso- and metathoracic dorsal discs, which in turn exerts a direct effect on morphogenesis.