Acute graft-versus-host disease (GvHD) is a severe adverse event after stem cell transplantation. Bone marrow-derived mesenchymal stromal cells (BM-MSCs) have been used to treat GvHD, but decidual stromal cells (DSCs) isolated from term fetal membrane have advantages compared with BM-MSCs, including increased allosuppression, unlimited supply, and high expression of integrins. We introduced the use of DSCs in patients with steroid refractory aGvHD. In this study, we investigated factors of importance in the reduction of alloreactivity by DSCs. We found that DSCs need to have cell-cell contact in order to mediate suppression in mixed lymphocyte reactions (MLRs). This contact dependency is consistent with an increased frequency of CD4(+)CD25(high)FOXP3(+) regulatory T cells (Tregs) and an augmented intensity of CD25 expression in CD4(+) T cells. Blocking of the activity of indoleamine-2,3-dioxygenase (IDO), prostaglandin E2, PD-L1, and IFN-γ impaired the antiproliferative ability of the DSCs in MLRs. Neutralization of IDO also reduced the frequency of Tregs. In contrast to BM-MSCs, pretreatment of DSCs with high concentrations of IFN-γ (100 U/mL) reduced their ability to suppress alloreactivity, but stimulation of DSCs with MLR supernatants containing low levels of IFN-γ had no effect on the suppressive capacity in MLR. To conclude, DSCs differ in several aspects from MSCs and need to be close to alloreactive lymphocytes to mediate a suppressive effect and increase the frequency of Tregs. Thus, DSCs may not only use paracrine factors for systemic immunosuppression, but also more specifically target T cells locally in affected tissues.