Background Diabetic peripheral neuropathy causes significant pain to patients. Umbilical cord mesenchymal stem cells have been shown to be useful in the treatment of diabetes and its complications. The aim of this study was to investigate whether human umbilical cord mesenchymal stem cells treated with interferon-gamma can ameliorate nerve injury associated with diabetes better than human umbilical cord mesenchymal stem cells without interferon-gamma treatment.Methods Human umbilical cord mesenchymal stem cells were assessed for adipogenic differentiation, osteogenic differentiation, and proliferation ability. Vonfry and a hot disc pain tester were used to evaluate tactile sensation and thermal pain sensation in mice. Hematoxylin-eosin and TUNEL staining were performed to visualize sciatic nerve fiber lesions and Schwann cell apoptosis in diabetic mice. Western blotting was used to detect expression of the apoptosis-related proteins Bax, B-cell lymphoma-2, and caspase-3 in mouse sciatic nerve fibers and Schwann cells. Real-Time Quantitative PCR was used to detect mRNA levels of the C-X-C motif chemokine ligand 1, C-X-C motif chemokine ligand 2, C-X-C motif chemokine ligand 9, and C-X-C motif chemokine ligand 10 in mouse sciatic nerve fibers and Schwann cells. Enzyme-linked immunosorbent assay was used to detect levels of the inflammatory cytokines, interleukin-1 beta, interleukin-6, and tumor necrosis factor-alpha in serum and Schwann cells.Results The adipogenic differentiation capacity, osteogenic differentiation capacity, and proliferation ability of human umbilical cord mesenchymal stem cells were enhanced after interferon-gamma treatment. Real-Time Quantitative PCR revealed that interferon-gamma promoted expression of the adipogenic markers, PPAR-gamma and CEBP-alpha, as well as of the osteogenic markers secreted phosphoprotein 1, bone gamma-carboxyglutamate protein, collagen type I alpha1 chain, and Runt-related transcription factor 2. The results of hematoxylin-eosin and TUNEL staining showed that pathological nerve fiber damage and Schwann cell apoptosis were reduced after the injection of interferon-gamma-treated human umbilical cord mesenchymal stem cells. Expression of the apoptosis-related proteins, caspase-3 and Bax, was significantly reduced, while expression of the anti-apoptotic protein B-cell lymphoma-2 was significantly increased. mRNA levels of the cell chemokines, C-X-C motif chemokine ligand 1, C-X-C motif chemokine ligand 2, C-X-C motif chemokine ligand 9, and C-X-C motif chemokine ligand 10, were significantly reduced, and levels of the inflammatory cytokines, interleukin-1 beta, interleukin-6, and tumor necrosis factor-alpha, were decreased. Tactile and thermal pain sensations were improved in diabetic mice.Conclusion Interferon-gamma treatment of umbilical cord mesenchymal stem cells enhanced osteogenic differentiation, adipogenic differentiation, and proliferative potential. It can enhance the ability of human umbilical cord mesenchymal stem cells to alleviate damage to diabetic nerve fibers and Schwann cells, in addition to improving the neurological function of diabetic mice.