Differentiation in the Drosophila eye imaginal disc traverses the disc as a wave moving from posterior to anterior. The propagation of this wave is driven by hedgehog protein secreted by the differentiated cells in the posterior region of the disc. Hedgehog induces decapentaplegic expression at the front of differentiation, in the morphogenetic furrow. We have identified a gene, shortsighted, which is expressed in a hedgehog-dependent stripe in the undifferentiated cells just anterior to the furrow and which appears to be involved in the transmission of the differentiation-inducing signal; a reduction in shortsighted function leads to a delay in differentiation and to a loss of photoreceptors in the adult. shortsighted is also required for a morphogenetic movement in the brain that reorients the second optic lobe relative to the first. shortsighted encodes a cytoplasmic leucine zipper protein with homology to a mouse gene, TSC-22, which is transcriptionally induced in response to TGF-beta.