Currently, the exhaust gas of a ship is regulated for nitrogen oxides and sulphur compounds; however, there is no IMO regulation on smoke under discussion. This study investigated the reduction of exhaust gas through ship emulsion fuel, which can simultaneously reduce nitrogen oxides and smoke in ship engines before smoke regulations are established. The combustion and exhaust characteristics were investigated according to the moisture content of emulsion fuel using a 400-kW generator engine. As the water content of the emulsion and the temperature of the combustion chamber increase, micro explosion increases and the combustion period decreases. The nitrogen oxide and smoke from the emulsion fuel used in this study decreased by 7% and 75%, respectively. The nitrogen oxides and soot reductions obtained by the use of emulsion fuel were boosted by micro-explosion of water contained in the fuel during combustion.