Polycrystalline Y2O3 is the material of choice for IR windows since it has excellent optical properties in the visible, and near infra-red band. However, current processing methods yield polycrystalline Y2O3 with large grain size (> 100 μm), which limits the hardness and erosion resistance attainable. One way to improve strength is to develop an ultra-fine grained material with acceptable optical transmission properties. To realize a fine-grained ceramic, one approach is to develop a composite structure, in which one phase inhibits the growth of the other phase during processing. In this study, Y2O3-MgO nanocomposite with various MgO content (20, 50 and 80 mol%) were synthesized using plasma spray method. Extensive characterization techniques including x-ray diffraction, scanning electron microscopy (SEM), Transmission electron microscopy (TEM) and Energy Dispersive spectrometry (EDS) were employed to study the synthesized powder as well as the consolidated sample. Transmission Electron Microscopy, as well as EDS chemical mapping, revealed that the consolidated sample have bi-continuous MgO-Y2O3 nanostructure with an average grain size of 200 nm.