The year is 1900 and Christian (Ewan McGregor), a grizzled, unkempt British writer who came to the village of Montmartre, Paris at the height of the Bohemian movement a year before, sits in a garret overlooking the closed-down theatre Moulin Rouge and writing on a typewriter. The story he is writing is about both himself and the woman he loved, Satine (Nicole Kidman), who is now dead.

In 1899, Christian arrives in Paris a naive and idealistic writer, and falls in with a group of Bohemians who frequent the Moulin Rouge. They are attempting to produce a theatrical production, "Spectacular Spectacular", which the Moulin Rouge's master Harold Zidler (Jim Broadbent) plans to put on at the cabaret. The Bohemians, chiefly Toulouse-Lautrec (John Leguizamo) among them, are impressed with Christian's gift with words and insist that he write "Spectacular Spectactular." They come up with an elaborate plan of presenting Christian to Satine, a beautiful courtesan, in the hopes that she will be impressed with him and persuade Zidler to hire him as the play's writer. Satine understands the mercenary nature of her work, though she dreams of leaving the Moulin Rouge to become a real actress. Incorrectly thinking that Christian is the wealthy and powerful Duke who will invest in "Spectacular Spectacular," she is charmed by Christian's poetry. She declares that she has fallen in love with him, but is shocked to realize he's actually a penniless Bohemian poet.

Soon after, the real Duke (Richard Roxburgh) arrives and finds Christian and Satine together. Christian's quick wit and Satine's charm fool the Duke into believing that they were rehearsing "Spectacular Spectacular." The main cast improvises the plot of the show on the spot: a beautiful Indian courtesan has her kingdom invaded by an "evil maharaja." She sets out to seduce him to save her kingdom, but accidentally seduces and then falls in love with a penniless sitar player. The two must hide their love and evade the maharaja, though it is implied that one of them may die at the end of the story. The Duke agrees to support the show, but he quickly reveals that he is a violently jealous man who will shut down the Moulin Rouge if he does not get Satine to himself. Nevertheless, he accepts that she will be busy with rehearsals and in close contact with Christian, the writer.

Christian and Satine fall in love, while Zidler struggles to keep the Duke interested in the show even though Satine has not yet spent the night with him. Zidler also discovers that Satine is dying of consumption, but does not tell anyone because "The show must go on." Meanwhile, Christian continues to develop the play, in which the courtesan and the penniless sitar player end up together. The Duke, however, does not appreciate the ending and tells the cast that the courtesan must end up in the arms of the maharaja. To convince him to change his mind, Satine finally agrees to spend the night with the Duke. Christian is overcome with jealousy while Satine has dinner with the Duke, who offers her everything she has dreamt of. But when the Duke realizes that Satine would never love him, he tries to take Satine by force. After she escapes, Satine and Christian plan to run away.

By now, the Duke has realized Satine's cuckoldry, and informs Zidler that, if the "maharaja" does not get his "courtesan," he will have the "penniless sitar player" killed. Nonetheless, Zidler must inform Satine of her terminal condition before she agrees to give up on the escape plan. She goes to Christian and lies to him, convincing him that her love was an act in the hopes that this will inspire him to leave Paris and therefore save his life.

As the show debuts, Satine performs wearily, knowing that her time is almost up. Christian, unwilling to give up on her, confronts her backstage. When she tries to drive him off again, he takes the place of the show's hero, throwing money at her feet to "pay his whore," and storming off the stage. Satine confesses her love for him in the form of his secret song, and Christian and Satine reconcile in full view of the audience and the Duke. The Duke attempts to shoot Christian, but Zidler drives him off. The audience applauds what they perceived as a good drama, but backstage, Satine is overcome by her illness and dies in Christian's arms. As her final wish, she asks Christian to tell their story.

A year later, still in his garret overlooking the now-deserted red windmill, Christian finally types the last page of his work, ending it with the couplet, "The greatest thing you will ever learn, is just to love and be loved in return."