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Network address translation (NAT) is a method of remapping an IP address space into another by modifying network address information in the IP header of packets while they are in transit across a traffic routing device. The technique was originally used to avoid the need to assign a new address to every host when a network was moved, or when the upstream Internet service provider was replaced, but could not route the networks address space.
Source: howstuffworks > The Internet has grown larger than anyone ever imagined it could be. Although the exact size is unknown, the current estimate is that there are about 100 million hosts and more than 350 million users actively on the Internet. That is more than the entire population of the United States! In fact, the rate of growth has been such that the Internet is effectively doubling in size each year.
What does the size of the internet have to do with anything?
Everything! For a computer to communicate with other computers and web servers on the Internet, it must have an IP address. An IP address (IP stands for Internet Protocol) is a unique 32-bit number that identifies the location of your computer on a network. Basically, it works like your street address -- as a way to find out exactly where you are and deliver information to you.
When IP addressing first came out, everyone thought that there were plenty of addresses to cover any need. Theoretically, you could have 4,294,967,296 unique addresses (232). The actual number of available addresses is smaller (somewhere between 3.2 and 3.3 billion) because of the way that the addresses are separated into classes, and because some addresses are set aside for multicasting, testing or other special uses.
With the explosion of the Internet and the increase in home networks and business networks, the number of available IP addresses is simply not enough. The obvious solution is to redesign the address format to allow for more possible addresses. This is being developed (called IPv6), but will take several years to implement because it requires modification of the entire infrastructure of the Internet.
This is where NAT (RFC 1631) comes to the rescue. Network Address Translation allows a single device, such as a router to act as an agent between the Internet (or "public network") and a local (or "private") network. This means that only a single, unique IP address is required to represent an entire group of computers.
But the shortage of IP addresses is only one reason to use NAT.