In 1978, a serial killer nicknamed "The Tooth Fairy" stalks and murders seemingly random families during sequential full moons. He first kills the Jacobi family in Birmingham, Alabama, then the Leeds family in Atlanta, Georgia. Two days after the Leeds murders, FBI agent Jack Crawford seeks out his protégé, Will Graham, a brilliant profiler who captured the serial killer Hannibal Lecter three years earlier, but retired after Lecter almost killed him. Crawford goes to Graham's Marathon, Florida residence and pleads for his assistance; Graham reluctantly agrees. After looking over the crime sceneswith only minimal insight, he realizes that he must visit Lecter and seek his help in capturing the Red Dragon.
"The Tooth Fairy" is revealed to be the production chief of a St. Louis film processing firm named Francis Dolarhyde. He is a disturbed individual who is obsessed with the William Blake painting The Great Red Dragon and the Woman Clothed in Sun (which the book misidentifies as The Great Red Dragon and the Woman Clothed with the Sun). Dolarhyde is unable to control his violent, sexual urges, and believes that murdering people—or "changing" them, as he calls it—allows him to more fully "become" an alternate personality he calls the "Great Red Dragon", after the dominant character in Blake's painting. Flashbacks reveal that his pathology is born from the systematic abuse he suffered as a child at the hands of both hissadistic grandmother and his stepfamily.
As Graham investigates the case, he is hounded by Freddy Lounds, a sleazy tabloid reporter. Meanwhile, Lecter's de facto jailer, Frederick Chilton, discovers a secret correspondence between Lecter and Dolarhyde, in which Lecter provides the killer with Graham's home address. Graham's wife and stepson are evacuated to a remote farm belonging to Crawford's brother. Graham tries to intercept the secret communication without Lecter's knowledge, but instead attracts the attention of Freddy Lounds.
Lounds becomes aware of the correspondence and tries to trick Graham into revealing details of the investigation by posing as the Red Dragon, but is found out. Hoping to lure the Red Dragon into a trap, Graham gives Lounds an interview in which he deliberately mischaracterizes the killer as an impotent homosexual. This infuriates Dolarhyde, who kidnaps Lounds, forces him to recant the allegations, bites off his lips and sets him on fire, leaving his maimed body outside his newspaper's offices; Lounds eventually dies.
At about the same time, Dolarhyde falls in love with a blind co-worker named Reba McClane, which conflicts with his homicidal urges. In beginning a relationship with Reba, Dolarhyde resists the Dragon's "possession" of him; he goes to the Brooklyn Museum, beats a museum secretary unconscious, and eats the original Blake watercolor of The Red Dragon .
Graham eventually realizes that the killer knew the layout of his victims' houses from their home movies, which were developed at the same film processing lab. Dolarhyde's job gives him access to all home movies that pass through the company. When he sees Graham interviewing his boss, Dolarhyde realizes that they are on to him and goes to see Reba one last time. He finds her talking to a co-worker, Ralph Mandy, whom she dislikes. Believing that Reba is being unfaithful, Dolarhyde kills Mandy. He kidnaps Reba and, having taken her to his house, sets the place on fire. He says he intends to kill her and then himself, but finds himself unable to shoot her. The shotgun fires, and a body hits the floor. Reba escapes just before the house explodes. Graham later comforts her, telling her that there is nothing wrong with her, and that the kindness and affection she showed Dolarhyde probably saved lives.
Dolarhyde appears at Graham's Florida home, stabbing him in the face and permanently disfiguring him. Graham's wife, Molly, then fatally shoots Dolarhyde.
As Graham recovers, Crawford explains what happened. The dead man in Dolarhyde's house was a gas station attendant he'd had an altercation with; Dolarhyde had brought the man's body to his house to stage his own death, using Reba as a witness.
Crawford intercepts a letter to Graham from Lecter, which bids him well and hopes that he isn't too disfigured, and destroys it in an incinerator. Graham, in the hospital, has a flashback to a visit he made to Shiloh, the site of a major battle in the U.S. Civil War, shortly after apprehending (and in the process killing) Garrett Hobbs, a serial killer he investigated and on whose profile he consulted with Hannibal Lecter. Graham starts thinking that Shiloh is a beautiful and quiet place, and decides that he will live there for the rest of his life.