The agency, Ibama, issued licenses to the consortium in charge of Belo Monte to start the construction site and to clear 238.1 hectares 588 acres of forest land, about the size of Monaco.
The government has said the 11,000-megawatt project, due to start producing electricity in 2015, is crucial to provide power to Brazil's fast-growing economy.
Norte Energia, the consortium that won the auction to build Belo Monte, is made up of state-run utility holding company Eletrobras, Brazil's second-largest pension fund Petros, and several local construction companies.
Originally conceived 30 years ago, progress on Belo Monte has been slowed over the years by protests, including an incident in 2009 in which Kayapo Indians armed with clubs and machetes attacked a state electricity official.
Critics from singer Sting to Hollywood director James Cameron and environmental group Greenpeace have said the dam will damage the environment and harm thousands of people living in the region.
The 6-km-long 3.75-mile dam will displace 30,000 river dwellers, partially dry up a 100-km stretch of the Xingu river, and flood a 500-square-km area three times the size of Washington D.C.