Interferon (IFN)-γ is a pleiotropic cytokine with a central role in innate and adaptive immunity. As a potent pro-inflammatory and antitumor cytokine, IFN-γ is conventionally thought to be responsible for driving cellular immune response. On the other hand, accumulating evidence suggests that IFN-γ also has immunosuppressive activity. An important role for IFN-γ in inhibiting graft-versus-host disease (GVHD) has been demonstrated in murine models, despite IFN-γ being one of the key factors amplifying T cell activation during the process of acute GVHD (aGVHD), the major complication and cause of post-transplant mortality in allogeneic bone marrow transplantation (BMT). At the same time, IFN-γ facilitates graft-versus-leukemia (GVL) activity. Dissociation of GVL effects from GVHD has been the ultimate goal of allogeneic BMT in the treatment of hematologic malignancies. This paradoxic role of IFN-γ makes modulating its activity a promising strategy to maximize GVL while minimizing GVHD and improve clinical outcomes in BMT. In this review, the effects of IFN-γ on GVHD and GVL are discussed with consideration of the mechanism of IFN-γ action.