Below is an introduction to the topic, but for a more advanced treatment of it see FIFOs.
Transmitting is sending bytes out of the serial port away from the computer. Once you understand transmitting, receiving is easy to understand since it's similar. The first explanation given here will be grossly oversimplified. Then more detail will be added in later explanations. When the computer wants to send a byte out the serial port (to the external cable) the CPU sends the byte on the bus inside the computer to the I/O address of the serial port. The serial port takes the byte, and sends it out one bit at a time (a serial bit-stream) on the transmit pin of the serial cable connector. For what a bit (and byte) look like electrically see Voltage Waveshapes.
Here's a replay of the above in a little more detail (but still very incomplete). Most of the work at the serial port is done by the UART chip (or the like). To transmit a byte, the serial device driver program (running on the CPU) sends a byte to the serial port"s I/O address. This byte gets into a 1-byte "transmit shift register" in the serial port. From this shift register bits are taken from the byte one-by-one and sent out bit-by-bit on the serial line. Then when the last bit has been sent and the shift register needs another byte to send it could just ask the CPU to send it another byte. Thus would be simple but it would likely introduce delays since the CPU might not be able to get the byte immediately. After all, the CPU is usually doing other things besides just handling the serial port.
A way to eliminate such delays is to arrange things so that the CPU gets the byte before the shift register needs it and stores it in a serial port buffer (in hardware). Then when the shift register has sent out its byte and needs a new byte immediately, the serial port hardware just transfers the next byte from its own buffer to the shift register. No need to call the CPU to fetch a new byte.
The size of this serial port buffer was originally only one byte, but today it is usually 16 bytes (more in higher priced serial ports). Now there is still the problem of keeping this buffer sufficiently supplied with bytes so that when the shift register needs a byte to transmit it will always find one there (unless there are no more bytes to send). This is done by contacting the CPU using an interrupt.
First we'll explain the case of the old fashioned one-byte buffer, since 16-byte buffers work similarly (but are more complex). When the shift register grabs the byte out of the buffer and the buffer needs another byte, it sends an interrupt to the CPU by putting a voltage on a dedicated wire on the computer bus. Unless the CPU is doing something very important, the interrupt forces it to stop what it was doing and start running a program which will supply another byte to the port's buffer. The purpose of this buffer is to keep an extra byte (waiting to be sent) queued in hardware so that there will be no gaps in the transmission of bytes out the serial port cable.
Once the CPU gets the interrupt, it will know who sent the interrupt since there is a dedicated interrupt wire for each serial port (unless interrupts are shared). Then the CPU will start running the serial device driver which checks registers at I/0 addresses to find out what has happened. It finds out that the serial's transmit buffer is empty and waiting for another byte. So if there are more bytes to send, it sends the next byte to the serial port's I/0 address. This next byte should arrive when the previous byte is still in the transmit shift register and is still being transmitted bit-by-bit.
In review, when a byte has been fully transmitted out the transmit wire of the serial port and the shift register is now empty the following 3 things happen almost simultaneously:
Thus we say that the serial port is interrupt driven. Each time the serial port issues an interrupt, the CPU sends it another byte. Once a byte has been sent to the transmit buffer by the CPU, then the CPU is free to pursue some other activity until it gets the next interrupt. The serial port transmits bits at a fixed rate which is selected by the user (or an application program). It's sometimes called the baud rate. The serial port also adds extra bits to each byte (start, stop and perhaps parity bits) so there are often 10 bits sent per byte. At a rate (also called speed) of 19,200 bits per second (bps), there are thus 1,920 bytes/sec (and also 1,920 interrupts/sec).
Doing all this is a lot of work for the CPU. This is true for many reasons. First, just sending one 8-bit byte at a time over a 32-bit data bus (or even 64-bit) is not a very efficient use of bus width. Also, there is a lot of overhead in handing each interrupt. When the interrupt is received, the device driver only knows that something caused an interrupt at the serial port but doesn't know that it's because a character has been sent. The device driver has to make various checks to find out what happened. The same interrupt could mean that a character was received, one of the control lines changed state, etc.
A major improvement has been the enlargement of the buffer size of the serial port from 1-byte to 16-bytes. This means that when the CPU gets an interrupt it gives the serial port up to 16 new bytes to transmit. This is fewer interrupts to service but data must still be transferred one byte at a time over a wide bus. The 16-byte buffer is actually a FIFO (First In First Out) queue and is often called a FIFO. See FIFOs for details about the FIFO along with a repeat of some of the above info.
Receiving bytes by a serial port is similar to sending them only it's in the opposite direction. It's also interrupt driven. For the obsolete type of serial port with 1-byte buffers, when a byte is fully received from the external cable it goes into the 1-byte receive buffer. Then the port gives the CPU an interrupt to tell it to pick up that byte so that the serial port will have room for storing the next byte which is currently being received. For newer serial ports with 16-byte buffers, this interrupt (to fetch the bytes) may be sent after 14 bytes are in the receive buffer. The CPU then stops what it was doing, runs the interrupt service routine, and picks up 14 to 16 bytes from the port. For an interrupt sent when the 14th byte has been received, there could be 16 bytes to get if 2 more bytes have arrived since the interrupt. But if 3 more bytes should arrive (instead of 2), then the 16-byte buffer will overrun. It also may pick up less than 14 bytes by setting it that way or due to timeouts. See FIFOs for more details.
We've talked about small 16-byte serial port hardware buffers but there are also much larger buffers in main memory. When the CPU takes some bytes out of the receive buffer of the hardware, it puts them into a much larger (say 8k-byte) receive buffer in main memory. Then a program that is getting bytes from the serial port takes the bytes it's receiving out of that large buffer (using a "read" statement in the program). A similar situation exists for bytes that are to be transmitted. When the CPU needs to fetch some bytes to be transmitted it takes them out of a large (8k-byte) transmit buffer in main memory and puts them into the small 16-byte transmit buffer in the hardware.