The use of embryonic stem (ES) cells for generating healthy tissues has the potential to revolutionize therapies for human disease or injury, for which there are currently no effective treatments. Strategies for manipulating stem cell differentiation should be based on knowledge of the mechanisms by which lineage decisions are made during early embryogenesis. Here, we review current research into the factors influencing lineage differentiation in the mouse embryo and the application of this knowledge to in vitro differentiation of ES cells. In the mouse embryo, specification of tissue lineages requires cell-cell interactions that are influenced by coordinated cell migration and cellular neighborhood mediated by the key WNT, FGF, and TGFbeta signaling pathways. Mimicking the cellular interactions of the embryo by providing appropriate signaling molecules in culture has enabled the differentiation of ES cells to be directed predominately toward particular lineages. Multistep strategies incorporating the provision of soluble factors known to influence lineage choices in the embryo, coculture with other cells or tissues, genetic modification, and selection for desirable cell types have allowed the production of ES cell derivatives that produce beneficial effects in animal models. Increasing the efficiency of this process can only result from a better understanding of the molecular control of cell lineage determination in the embryo.