Coactivator-associated arginine methyltransferase I (CARM1; PRMT4) regulates gene expression by multiple mechanisms including methylation of histones and coactivation of steroid receptor transcription. Mice lacking CARM1 are small, fail to breathe and die shortly after birth, demonstrating the crucial role of CARM1 in development. In adults, CARM1 is overexpressed in human grade-III breast tumors and prostate adenocarcinomas, and knockdown of CARM1 inhibits proliferation of breast and prostate cancer cell lines. Based on these observations, we hypothesized that loss of CARM1 in mouse embryos would inhibit pulmonary cell proliferation, resulting in respiratory distress. By contrast, we report here that loss of CARM1 results in hyperproliferation of pulmonary epithelial cells during embryonic development. The lungs of newborn mice lacking CARM1 have substantially reduced airspace compared with their wild-type littermates. In the absence of CARM1, alveolar type II cells show increased proliferation. Electron microscopic analyses demonstrate that lungs from mice lacking CARM1 have immature alveolar type II cells and an absence of alveolar type I cells. Gene expression analysis reveals a dysregulation of cell cycle genes and markers of differentiation in the Carm1 knockout lung. Furthermore, there is an overlap in gene expression in the Carm1 knockout and the glucocorticoid receptor knockout lung, suggesting that hyperproliferation and lack of maturation of the alveolar cells are at least in part caused by attenuation of glucocorticoid-mediated signaling. These results demonstrate for the first time that CARM1 inhibits pulmonary cell proliferation and is required for proper differentiation of alveolar cells.