Video footage showed what prosecutors said was Ljube Boskovski witnessing the attack from behind a wall that overlooked the village.
Mr Boskovski is on trial in The Hague, with police official Johan Tarculovski.
It is the first trial of men suspected of committing war crimes in Macedonia. Both men deny the charges.
The August 2001 attack on the farming village of Ljuboten occurred during a six-month insurgency in the Former Yugoslav Republic of Macedonia during which the country's nationalist government fought to suppress ethnic Albanian militias.
'Criminally responsible'
Mr Boskovski, 46, was alleged to have effective command and control over the forces from his position as interior minister.
"Due to his failure to take necessary and reasonable measures to punish the perpetrators of the crimes committed in the village of Ljuboten, the prosecution will ask you to find Ljube Boskovski criminally responsible as a superior," prosecutor Dan Saxon said.
Prosecutors say Mr Tarculovski, 32, ran a private security unit loyal to Mr Boskovski and led the attack on the village.
"The police unit led by the accused Tarculovski deliberately chose unarmed civilians, wantonly burned and destroyed many homes without justification and cruelly treated a group of residents, seven of whom were killed," another prosecutor said.
Footage showing smoke rising from homes in the village was also shown to the court.
According to charges presented by the court, the attack on Ljuboten was launched as a retaliation for an attack which killed eight Macedonian soldiers.
Lawyers for both defendants declined to make opening statements.
But a lawyer for Mr Boskovski told the Associated Press news agency that the interior minister had been responding to "terrorist" actions and "took all necessary and responsible measures".
The men could face life sentences if convicted. The trial was adjourned until 7 May.
Mr Tarculovski and Mr Boskovski were the last two men to be indicted by the war crimes tribunal in The Hague over alleged atrocities committed in the former Yugoslavia.
The BBC's Geraldine Coughlan, in The Hague, says while they are the first to face charges over events in Macedonia, more could arrive before the tribunal winds down in 2010.
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