We could write an entire book on Damascus steel and still not be fair to the topic, either historically or technically. At the risk of over-simplifying a complicated subject, we'll do our best to keep this explanation useful.
What we currently call "Damascus" is, of course, that cool-looking blade steel with mesmerizing watery patterns -- waves, drops and so on. These patterns aren't applied to the surface, but rather are the visible "edges" of multiple layers of ferrous metals (steel and iron).
The roots of this type of steel trace to the Middle East and India. Sadly, the original methods of producing true Damascus steel and something called "Wootz" have been lost to the ages.
Virtually all of today's Damascus is produced by "pattern welding," a process that had disappeared in the 16th Century before its revival in 1973 by renowned knifemaker Bill Moran. In basic terms, it involves taking two or more steel alloys and hammer-forging and folding them repeatedly to produce an appealing pattern.
Historically, Damascus steel has been valued for its strength and remarkable flexibility, especially in long blades (like swords). And although modern "super steels" tend to outperform pattern-welded Damascus, there's no disputing its beauty.