Studies in vertebrates show that homeotic genes are involved in axial patterning and in specifying segmental identity of the embryonic hindbrain and spinal cord. To gain further insights into homeotic gene action during CNS development, we here characterize the role of the homeotic genes in embryonic brain development of Drosophila. We first use neuroanatomical techniques to map the entire anteroposterior order of homeotic gene expression in the Drosophila CNS, and demonstrate that this order is virtually identical in the CNS of Drosophila and mammals. We then carry out a genetic analysis of the labial gene in embryonic brain development. Our analysis shows that loss-of-function mutation and ubiquitous overexpression of labial results in ectopic expression of neighboring regulatory genes. Furthermore, this analysis demonstrates that mutational inactivation of labial results in regionalized axonal patterning defects which are due to both cell-autonomous and cell-nonautonomous effects. Thus, in the absence of labial, mutant cells are generated and positioned correctly in the brain, but these cells do not extend axons. Additionally, extending axons of neighboring wild-type neurons stop at the mutant domains or project ectopically, and defective commissural and longitudinal pathways result. Immunocytochemical analysis demonstrates that cells in the mutant domains do not express neuronal markers, indicating a complete lack of neuronal identity. An alternative glial identity is not adopted by these mutant cells. Comparable effects are seen in Deformed mutants but not in other homeotic gene mutants. Our findings demonstrate that the action of the homeotic genes labial and Deformed are required for neuronal differentiation in the developing brain of Drosophila.