We present a mechanism for small-scale irregularity generation in the E region due to a thermal instability driven by the neutral wind. The polarization electric field induced by the neutral wind causes frictional heating due to ion neutral collisions. In plasma-depleted regions this leads to enhanced plasma pressure and plasma is forced out, enhancing the plasma depletion. When heat advection is included, the threshold for instability is lower than neutral winds commonly observed in the midlatitude E region. Another factor contributing to the instability growth is the dependence of the ion neutral collisional frequency on ion temperature. This also results in a smaller threshold neutral wind due to both a reduced ion cooling rate during ion-neutral energy exchange and heat advection. In a standard two-fluid treatment the thermal theory predicts two preferable altitude ranges for small-scale irregularity generation: between 93 and 102 km and near 110 km altitude. We find that the thermal processes may be responsible for the continuous and thick continuous echoes observed by the middle and upper atmosphere radar and by the frequency agile radar during the Sporadic E Experiment over Kyushu (SEEK) campaign for 3.2-m and 6.1-m field-aligned irregularities, respectively. The theory may explain the SEEK campaign observations of 6.1-m echoes at as high as 150 km altitude if the irregularity elongation is stronger than that due to ambipolar diffusion. The predicted phase velocities are much smaller than the ion acoustic velocity, which allows us to associate the instability with the type 2 radar echoes. ¿ 2000 American Geophysical Union