Nonalcoholic fatty liver disease (NAFLD) progresses to nonalcoholic steatohepatitis (NASH) in response to elevated endoplasmic reticulum (ER) stress. Whereas the onset of simple steatosis requires elevated de novo lipogenesis, progression to NASH is triggered by accumulation of hepatocyte-free cholesterol. We now show that caspase-2, whose expression is ER-stress inducible and elevated in human and mouse NASH, controls the buildup of hepatic-free cholesterol and triglycerides by activating sterol regulatory element-binding proteins (SREBP) in a manner refractory to feedback inhibition. Caspase-2 colocalizes with site 1 protease (S1P) and cleaves it to generate a soluble active fragment that initiates SCAP-independent SREBP1/2 activation in the ER. Caspase-2 ablation or pharmacological inhibition prevents diet-induced steatosis and NASH progression in ER-stress-prone mice. Caspase-2 inhibition offers a specific and effective strategy for preventing or treating stress-driven fatty liver diseases, whereas caspase-2-generated S1P proteolytic fragments, which enter the secretory pathway, are potential NASH biomarkers.