On RStudio version 0.98.501 I had a long .Rmd file which was easily converted to html once I clicked KnitHtml button. The Knitting process, as I understand, created several fold
While there are multiple correct solutions above, I'd like to add that a common cause of this error is syntactical, when the author accidentally wraps the file name in the markdown in quotes:

This will result in pandoc being unable to locate the file. I find this mistake to be easy to make in knitr, since we are intertwining R scripts with markdown.
The correct way to insert the image is:
