Abstract Reciprocal epithelial–mesenchymal interactions are pivotal in lung development, homeostasis, injury, and repair. Organoids have been used to investigate such interactions, but with a major focus on epithelial responses to mesenchyme and less attention to epithelial effects on mesenchyme. In the present study, we used nascent organoids composed of human and mouse lung epithelial and mesenchymal cells to demonstrate that healthy lung epithelium dramatically represses transcriptional, contractile, and matrix synthetic functions of lung fibroblasts. Repression of fibroblast activation requires signaling via the bone morphogenetic protein (BMP) pathway. BMP signaling is diminished after epithelial injury in vitro and in vivo, and exogenous BMP4 restores fibroblast repression in injured organoids. In contrast, inhibition of BMP signaling in healthy organoids is sufficient to derepress fibroblast matrix synthetic function. Our results reveal potent repression of fibroblast activation by healthy lung epithelium and a novel mechanism by which epithelial loss or injury is intrinsically coupled to mesenchymal activation via loss of repressive BMP signaling.