MicroRNAs (miRNAs) control gene expression in animals and plants. Like another class of small RNAs, siRNAs, they affect gene expression posttranscriptionally. While siRNAs in addition act in transcriptional gene silencing, a role of miRNAs in transcriptional regulation has been less clear. We show here that in moss Physcomitrella patens mutants without a DICER-LIKE1b gene, maturation of miRNAs is normal but cleavage of target RNAs is abolished and levels of these transcripts are drastically reduced. These mutants accumulate miRNA:target-RNA duplexes and show hypermethylation of the genes encoding target RNAs, leading to gene silencing. This pathway occurs also in the wild-type upon hormone treatment. We propose that initiation of epigenetic silencing by DNA methylation depends on the ratio of the miRNA and its target RNA.