North Korea claims that the attack on Yeonpyeong island, which killed two marines and injured 18 soldiers, was a military response to South Korean provocation.
Pyongyang also threatened it would continue the barrage if South Korea violated the sovereignty of its territorial waters.
North Korean military high command said in a statement, “In a military provocation, the South Korean puppets started firing over the region of the Yeonpyeong Island in the Chosun West Sea from 1pm, despite our repeated warnings. Our revolutionary forces responded to the puppets’ military provocation with firm military measures and strong, rapid physical blows.”
"We will continue to make merciless military attacks with no hesitation if the South Korean enemy dares to invade our sea territory by 0.001 mm", it said in the statement carried by KCNA the North's official news agency.
"It is our military's traditional response to quell provocative actions with a merciless thunderbolt."
South Korea has been conducting a military drill on the western coast. The "Hoguk Exercise," one of South Korea's three major annual defense exercises, began Monday with some 70,000 troops participating as well as US forces.
According to South Korean officials the clash began yesterday when North Korea warned the South to halt military drills near their sea border.
When Seoul refused and began firing artillery into disputed waters - but away from the North Korean shore - the North retaliated by shelling Yeonpyeong, which houses South Korean military installations and a small civilian population.
Seoul responded by unleashing its own barrage from K-9 155mm self-propelled howitzers and scrambling fighter jets. Two South Korean marines were killed in the shelling that also injured 15 troops and three civilians. Officials in Seoul said there could be considerable North Korean casualties.
South Korea's troops were on high alert today as the government exchanged threats with rival North Korea following the military skirmish that took tensions on the peninsula to new extremes.
US president Barack Obama reaffirmed Washington's pledges to protect its ally.
South Korea vowed massive retaliation should North Korea attack again and said today it would strengthen military forces in the disputed western waters near the island of Yeonpyeong and halt aid to the communist North.
South Korea sent two ships carrying 2,000 boxes of relief supplies to the stricken island today.
Coastguard official Kim Dong-jin said about 340 residents escaping the island were being taken to the port city of Incheon aboard a coastguard ship.
Images released by the local authority and obtained through YTN television showed people huddled in emergency shelters, children wrapped in blankets, rows of destroyed houses with collapsed walls, blown out windows and charred roofs.
The US government called the North's barrages an outrageous, unprovoked attack, but sought to avoid any escalation and did not reposition any of its 29,000 troops stationed in the South.
South Korean defence minister Kim Tae-young told MPs today that the military would send reinforcements to five islands near the disputed sea border, but provided no details.
"South Korea maintains military readiness to deter North Korea's additional provocations," he said.
South Korea also said that despite the artillery exchange the day before, it would continue another previously scheduled military drill set for a different part of the Yellow Sea, about 70 miles south of the disputed waters near Yeonpyeong.
Separately, South Korea said it was suspending promised aid shipments of cement and medicine worth £320,000. The government also ordered eight civic groups to stop delivering aid worth £1.46 million to North Korea.
The top US military officer in South Korea, General Walter Sharp, condemned North Korea's "unprovoked" artillery attack and called on the North to abide by the armistice that ended the 1950-53 Korean War.
North Korea's apparent progress in its nuclear weapons programme and its preparations for handing power to a new generation have plunged relations on the heavily militarised peninsula to new lows in recent weeks.
The attacks focused attention on the tiny island and sent stock prices down worldwide.
North Korea does not recognise the western maritime border drawn unilaterally by the UN at the close of the conflict and the Koreas have fought three bloody skirmishes there in recent years.
But this clash follows months in which tensions have steadily risen to their worst levels since the late 1980s, when a confessed agent for North Korea bombed a South Korean jetliner, killing all 115 people aboard.
In March, North Korea was blamed for launching a torpedo that sank the South Korean warship Cheonan while on routine patrol, killing 46 sailors. South Korea called it the worst military attack on the country since the war. Pyongyang denied responsibility.
Six weeks ago, North Korean leader Kim Jong Il anointed his youngest son, Kim Jong Un, heir apparent and this week Pyongyang claimed it has a new uranium enrichment facility, raising concerns about its pursuit of atomic weapons.