In digital photography terminology, JPEG is a type of lossy file format. Stands for Joint Photographic Experts Group. It is the most common file format used in digital photography. When the image is saved, the camera strips out data (parts of the photo) that the human eye probably won’t notice. This is called “compressing” the file. It keeps the size of the file down so that more images can be stored on the camera’s memory card.
The level of compression is set by the photographer and will affect image quality. The more the image is compressed, the more data is thrown away (and a small file size is the result). Less compression = less data thrown away = larger file size.
The danger is that if a file is compressed too much (i.e. lots of data is thrown away), the quality of the image suffers. The photos look “blocky” and “pixelated”.
On digital cameras the highest quality setting (usually called “Best” or “Fine”) results in less data being lost, and a good quality image is produced. The lowest settings (usually called “Low” or “Economy”) results in more data being lost, and a poor quality image is produced.
Glossary of Digital Photography Terminology – http://www.digital-photography-tips.net