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Transforming growth factor (TGF)-β1 is a potent mediator known to induce lung fibrosis. However, the role of latent TGF-β1 in lung inflammation and fibrosis is unclear. To investigate the role of circulating latent TGF-β1 in bleomycin-induced lung injury, lung disease was induced in keratin-5 promoter—driven TGF-β1wt transgenic (Tg) mice by bleomycin. The role of latent TGF-β1 in pulmonary inflammation and fibrosis was examined at Days 7 and 28 after administration of bleomycin. Compared with littermate wild-type (WT) mice, TGF-β1wt Tg mice had over twofold-higher levels of latent TGF-β1 in both plasma and lung tissue, and were protected from bleomycin-induced pulmonary inflammation, such as up-regulation of IL-1β, TNF-α, and macrophage chemotactic protein-1, and infiltration of CD3+ T cells and F4/80+ macrophages. In addition, the severity of lung fibrosis with massive collagen matrix accumulation was markedly reduced in TGF-β1wt Tg mice. These protective effects were associated with higher levels of Smad7 and inactivation of both NF-κB and TGF-β/Smad3 signaling pathways, in addition to an increase in forkhead box P3 (Foxp3)-dependent regulatory T cells, but inhibition of T helper 17—mediated lung injury. In summary, mice overexpressing latent TGF-β1 are protected from bleomycin-induced lung injury. Triggering the Smad7 negative feedback mechanism to inhibit both NF-κB and TGF-β/Smad signaling pathways, and enhancing the regulatory T cell response to counter-regulate T helper 17—mediated lung injury, are potential mechanisms by which latent TGF-β1 protects against bleomycin-induced lung injury.