During the hair cycle, follicle stem cells (SCs) residing in a specialized niche called the “bulge” undergo bouts of quiescence and activation to cyclically regenerate new hairs. Developmental studies have long implicated the canonical bone morphogenetic protein (BMP) pathway in hair follicle (HF) determination and differentiation, but how BMP signaling functions in the hair follicle SC niche remains unknown. Here, we use loss and gain of function studies to manipulate BMP signaling in the SC niche. We show that when the Bmpr1a gene is conditionally ablated, otherwise quiescent SCs are activated to proliferate, causing an expansion of the niche and loss of slow-cycling cells. Surprisingly, follicle SCs are not lost, however, but rather, they generate long-lived, tumor-like branches that express Sox4, Lhx2, and Sonic Hedgehog but fail to terminally differentiate to make hair. A key component of BMPR1A-deficient SCs is their elevated levels of both Lef1 and β-catenin, which form a bipartite transcription complex required for initiation of the hair cycle. Although β-catenin can be stabilized by Wnt signaling, we show that BMPR1A deficiency enhances β-catenin stabilization in the niche through a pathway involving PTEN inhibition and PI3K/AKT activation. Conversely, sustained BMP signaling in the SC niche blocks activation and promotes premature hair follicle differentiation. Together, these studies reveal the importance of balancing BMP signaling in the SC niche.