Interactions between the epithelial anlage of the developing mouse inner ear and its associated periotic mesenchyme control the differentiation of the cartilaginous otic capsule. Transforming growth factor-beta 1 (TGF-beta 1) is a naturally occurring signal peptide that is present in these tissues at times of active differentiation and morphogenesis. Previous studies have shown that TGF-beta 1 alone is not a sufficient stimulus to initiate chondrogenesis in cultured periotic mesenchyme. In this study, we provide evidence that basic fibroblast growth factor (bFGF) can elicit a specific but limited chondrogenic response in cultured periotic mesenchymal cells. We also demonstrate that simultaneous addition of bFGF and TGF-beta 1 to cultured periotic mesenchyme results in a full chondrogenic response comparable to that which occurs when periotic mesenchyme is grown in the presence of its natural inductor tissue (i.e. otic epithelium). Utilizing antibodies directed against bFGF, we show localization of endogenous bFGF in the otic epithelium in vivo and in mixed epithelial-mesenchymal cultures. Additionally, we demonstrate the presence of FGF-like activity in medium conditioned by otic epithelium. Blocking of epithelial elicited chondrogenesis by a combination of both alpha bFGF and alpha TGF-beta 1 antibodies provides further evidence of the necessity for these growth factors in the chondrogenic differentiation of periotic mesenchyme in vitro. Our results suggest a role for both bFGF and TGF-beta 1 in the regulation of chondrogenesis during otic capsule formation in situ.