Laboring in water provides excellent pain relief. It reduces tears. It lowers BP. It can assist in rotating a malpositioned baby. It reduces use of narcotic and epidural pain relief and all of their associated risks as well as those that go along with them- i.e. pitocin, continuous monitoring (which can be done in the water, just generally isn't), IV fluids, etc. It allows for great freedom of movement for the mother. Reduced rates of assisted and surgical delivery.
As for the actual birth, many people think that water birth provides a gentle transition for baby. I think the issue is more that after laboring in water it is unappealing to get out of the water to give birth. There is also some evidence that it reduces the risk of shoulder dystocia and is helpful in vaginal breech delivery by reducing pressure on the head as it delivers. The incidence of tears (and obviously episiotomies) is reduced in water births but the same effect may be achieved by the water labor.
There is some info at Waterbirth International (
www.waterbirth.org). It's an organization that promotes waterbirth and assists practitioners and facilities in developing protocols. There's also some info on safety on the site. Aspiration is obviously the main concern along with maternal/neonatal infection but neither have ever been demonstrated in large trials, mainly in other countries, obviously.
I am clearly biased in favor of waterbirth having personally had one of my kids in the water and delivered babies in the water (which is really a non-event since they pretty much deliver themselves).
There are some youtube videos if anyone is very interested. I have heard there is one where the baby is left underwater for a long time- that is not standard. Typically the baby is immediately brought to the surface. But check them out if you are interested.