Powdery mildew gets on leaves and is usually just unattractive, not deadly. What you encountered is something else. The "smoke" was spores being released. You never know what kind of interesting molds and fungus will show up when mulch decomposes. It's natural. I would worry more about the fabric than the mold or mildew.

Needs no "fixing" :-) It is a perfectly normal condition that arises from the combination of moisture and dead organic matter (mulch) = decomposition.

The fabric is not a concern either, other than it complicates cultivation and the ability of plants to self-sow and doesn't ncessarily retard weed development all that well. Most gardeners find it a nuisance rather than a boon.

But eventually the fabric will fill in with fine silt and not only support weed growth but also impede water getting through.
Nasty stuff!!
Linda C

Really?! Ok. Thanks everyone.

When I came back and read what I said again, I can see where it might seem like I was saying the fabric had something to do with the fungus. I just meant the fungus was natural and the fabric, as eloquently explained by lindac and gardengal (Thanks!,) doesn't do its' job well, can have unexpected and unintended consequences, and eventually gets ripped out and cussed out by someone. Fine roots get enmeshed in it from above and below and this is what makes removing it so difficult later. For allowing water into the soil, it is more porous than the mysterious and awful plastic that is sometimes used, but not much.

Mel, you do mean your neighbor used landscape fabric, right? (Suddenly picturing an old mulched bedsheet...) I would suggest newspaper to her for any future plantings.

Lol. Yeah. Hey at least a bedsheet would decompose better. A few years ago I put down some worthless super thin plastic under my rock garden. It's so pathetic, the grass grows right through it. I end up spraying grass killer. Ugh. The only thing growing are my daylilies, and man those things take a licking and keep on ticking. They're monsters!