The mechanisms explaining progression to severe COVID-19 remain poorly understood. It has been proposed that immune system dysregulation/over-stimulation may be implicated, but it is not clear how such processes would lead to respiratory failure. We performed comprehensive multiparameter immune monitoring in a tightly controlled cohort of 128 COVID-19 patients, and used the ratio of oxygen saturation to fraction of inspired oxygen (SpO2 / FiO2) as a physiologic measure of disease severity. Machine learning algorithms integrating 139 parameters identified IL-6 and CCL2 as two factors predictive of severe disease, consistent with the therapeutic benefit observed with anti-IL6-R antibody treatment. However, transcripts encoding these cytokines were not detected among circulating immune cells. Rather, in situ analysis of lung specimens using RNAscope and immunofluorescent staining revealed that elevated IL-6 and CCL2 were dominantly produced by infected lung type II pneumocytes. Severe disease was not associated with higher viral load, deficient antibody responses, or dysfunctional T cell responses. These results refine our understanding of severe COVID-19 pathophysiology, indicating that aberrant cytokine production by infected lung epithelial cells is a major driver of immunopathology. We propose that these factors cause local immune regulation towards the benefit of the virus.