Recent studies have implicated the signaling factor Sonic hedgehog (Shh) as a negative regulator of pancreatic development, but as a positive regulator of pancreas function in amniotes [1-4]. Here, using genetic analysis, we show that specification of the pancreas in the teleost embryo requires the activity of Hh proteins. Zebrafish embryos compromised in Hh signaling exhibit disruption in the expression of the pancreas-specifying homeobox gene pdx-1 and concomitantly show almost complete absence of the endocrine pancreas. Reciprocally, ubiquitous activation of the Hh pathway in wild-type embryos causes ectopic induction of endodermal pdx-1 expression and the differentiation of supernumerary endocrine cells. Our results suggest that Hh proteins influence pancreas specification via inductive interactions from the axial midline rather than through their localized expression in the endodermal cells themselves.