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Diabetes interferes with fracture repair; therefore, we investigated mechanisms of impaired fracture healing in a model of multiple low-dose streptozotocin-induced diabetes. Microarray and gene set enrichment analysis revealed an up-regulation of gene sets related to inflammation, including tumor necrosis factor (TNF) signaling in the diabetic group, when cartilage is being replaced by bone on day 16, but not on days 12 or 22. This change coincided with elevated osteoclast numbers and accelerated removal of cartilage in the diabetic group (P < 0.05), which was reflected by smaller callus size. When diabetic mice were treated with the TNF-specific inhibitor, pegsunercept, the number of osteoclasts, cartilage loss, and number of TNF-alpha and receptor activator for nuclear factor kB ligand positive chondrocytes were significantly reduced (P < 0.05). The transcription factor forkhead box 01 (FOXO1) was tested for mediating TNF stimulation of osteoclastogenic and inflammatory factors in bone morphogenetic protein 2 pretreated ATDC5 and C3H10T1/2 chondrogenic cells. FOXO1 knockdown by small-interfering RNA significantly reduced TNF-alpha, receptor activator for nuclear factor kB ligand, macrophage colony-stimulating factor, interleukin-1alpha, and interleukin-6 mRNA compared with scrambled small-interfering RNA. An association between FOXO1 and the TNF-alpha promoter was demonstrated by chromatin immunoprecipitation assay. Moreover, diabetes increased FOXO1 nuclear translocation in chondrocytes in vivo and increased FOXO1 DNA binding activity in diabetic fracture calluses (P < 0.05). These results suggest that diabetes-enhanced TNF-alpha increases the expression of resorptive factors in chondrocytes through a process that involves activation of FOXO1 and that TNF-alpha dysregulation leads to enhanced osteoclast formation and accelerated loss of cartilage.