Red silk grass is a powerful herb that hastens recovery by binding the wounded flesh together. It is a plot item, used to help heal Kia Min so that you can compete in Smiling Mountain's test for a "special prize". After defeating the bandits, you can return to the Two Rivers School and speak to Kia Min. She will mention her injury and the fact that she can't compete in Smiling Mountain's special test because of it. You can ask her if there is anything you can do to speed up the healing process. She then mentions that she has a vague recollection of a type of grass that might speed her healing.