Discovering the molecular mechanisms that regulate neuron-specific gene expression remains a central challenge for CNS research. Here, we report that small, noncoding double-stranded (ds) RNAs play a critical role in mediating neuronal differentiation. The sequence defined by this dsRNA is NRSE/RE1, which is recognized by NRSF/REST, known primarily as a negative transcriptional regulator that restricts neuronal gene expression to neurons. The NRSE dsRNA can trigger gene expression of neuron-specific genes through interaction with NRSF/REST transcriptional machinery, resulting in the transition from neural stem cells with neuron-specific genes silenced by NRSF/REST into cells with neuronal identity that can express neuronal genes. The mechanism of action appears to be mediated through a dsRNA/protein interaction, rather than through siRNA or miRNA. The discovery of small modulatory dsRNAs (smRNAs) extends the important contribution of noncoding RNAs as key regulators of cell behavior at both transcriptional and posttranscriptional levels.