The film opens outside of a grocery store, where a man is giving out samples of a new canned cheese product called "Cheese Tease", which nobody seems to enjoy eating. Pat Kramer (Lily Tomlin) emerges from the store with her two young children, Jeff (Justin Dana) and Beth (Shelby Balik), along with their maid, Concepcion (Maria Smith). The man forces a sample of Cheese Tease on Pat, and on the way home a can of air freshener explodes inside the car, fogging everybody and making them gag. Once home, Pat greets her neighbor, Judith Beasley (also played by Lily Tomlin), a busybody type who is in charge of the neighborhood council. Judith makes Pat listen to her sales pitch for a line of female beauty products, and she leaves Pat with some samples. Pat's husband, Vance (Charles Grodin), is returning that night from a business trip. He works for an advertising agency that pushes all sorts of products. He gives Pat a new perfume, accidentally spilling it on her dress, and tells her that they need to come up with a name for the new product. Pat suggests "Sexpot", which Vance seems to like. That night, Pat's dress begins smoking, which Pat and Vance are unaware, and the next day it is missing.
At a meeting, Vance pitches the idea of calling the perfume "Sexpot" at a meeting with the perfume's makers. His boss, Dan (Ned Beatty), thinks the idea is genius, and he hints that Vance could be up for a promotion. He gives Vance a new product to christen, a new glue. At home that night, Pat is hosting the neighborhood council meeting, at which Judith berates other neighbors for petty misbehavior. Concepcion accidentally drops a vase, and Vance uses the new glue to repair it. Chaos erupts, though, when Pat gets some of the glue on her fingers and ends up glued to other people and objects in the house.
By this time, Pat and Vance have both noticed that Pat is smaller than she used to be. When she visits a doctor, she finds that she's two inches shorter than she normally is. As the days pass, the phenomenon continues, but Pat insists that she not be treated any differently than she ever was. She stands on things to reach the kitchen countertop, and goes about her daily routine, which seems to be preparing meals and buying products. Eventually she's referred to doctors at the "Kleinman Institute", particularly Dr. Eugene Nortz (Henry Gibson) and Dr. Ruth Ruth (Elizabeth Wilson), who tell her that the reason she is shrinking has to do with the various chemicals she's been exposed to through her household products. They tell her to go home and wait for them to come up with an antidote, which she does, but secretly they are part of an secret company called "The Organization for World Management". They intend to somehow make a "shrink serum" from her blood and use it in a plot to shrink the entire world into subservient miniatures.
Meanwhile, Pat's celebrity begins to increase the more she shrinks. Judith convinces her to leave the house on a grocery store run, and she sits on the edge of the shopping cart like a child. When she starts feeling self conscious about the gawkers she attracts, Judith smuggles her out of the store in a shopping bag. Eager to tell her story about how household chemicals caused her to shrink, she accepts an invitation to appear on the Mike Douglas Show, a daytime talk show, but Dan convinces Vance that she shouldn't reveal the cause of her plight, lest they risk losing clients in the agency. Pat begrudgingly obeys and claims she doesn't know why she's shrinking.
Eventually Pat's size has decreased so much that she moves into a doll house that her family gives her for Christmas, along with a wardrobe of doll-sized clothing. She begins to lose control of her life due to her size; she can't control the kids anymore, her sex life with Vance disappears, and she has a hard time doing the household chores that she used to do, like cooking family meals. The evil doctors enlist Dan to help them lure the unsuspecting Pat into a position where they can exploit her, and at one point they make her a lucrative offer to be a spokesperson for more household products, but Pat refuses on principle.
Finally they decide to kidnap Pat, and they get their chance the next morning when a freak mishap occurs. As she helps Concepcion prepare breakfast, Pat has an argument with Vance and the kids. Desperate after they leave, she loses her footing while standing on the kitchen counter and falls into the sink, landing in the garbage disposal. Concepcion comes back to the kitchen and starts cleaning up, shoving food into the garbage disposal and nearly drowning Pat with it. She almost turns on the disposal, but is interrupted by the doorbell, a distraction that the kidnappers use to gain entrance to the house through the back door. Pat manages to climb out of the garbage disposal and leaves one of her doll shoes behind. After the goons from The Organization for World Management kidnap her, Concepcion returns to the kitchen, only seeing Pat's shoe in the sink after she turns on the garbage disposal. Everyone assumes Pat is dead, and they hold a funeral service for her in the back yard, where they bury her shoe in a matchbox.
In reality, Pat has been taken to a secret underground lab, where she is kept in a rat cage while the doctors study her. She shares space in the lab with a caged gorilla named Sidney (Rick Baker), who is extremely intelligent and seems to understand both spoken English and sign language. A lab assistant named Rob (Mark Blankfield) tells Pat that the doctors have told him that she's really just a clone of the real Pat Kramer, who they say is dead. Pat tries to tell him this isn't true, but he doesn't believe her. With Sidney's help, she does manage to gain access to a file folder on the table near her cage, where she reads all about her case and discovers the nefarious plans to shrink the world. Pat maneuvers her way to a telephone, again with Sidney's help, and manages to make a frantic phone call to Vance. Vance becomes hysterical upon learning that Pat has been kidnapped, but the doctors cut the phone call short when Dan tips them off that Pat has made communciation with the outside world Rob enters the lab and sees Pat making the call, but she manages to convince Rob that her story is true by showing him the top secret plans she found in the file folder. Rob bolts from the lab, but Pat and Sidney hear gunshots and fear Rob is dead.
Pat is now trapped underneath a funnel, while Vance goes on national television and tells the world that Pat is alive and has been kidnapped. Pat and Sidney are overjoyed when Rob returns, still alive, and helps them escape. After a lengthy chase where numerous armed guards pursue them and fire at them, they manage to make it to the surface and exit the lab, which happens to be located underneath the very shopping center Pat used to patronize. The guards give chase, and the disruption causes shoppers to collide, resulting in a large puddle of laundry detergent and other household liquids. The guards back off when Rob gets the attention of the police, stomping on their feet so they will arrest him. Sidney deposits Pat on a table near the Cheese Tease man's microphone, where she gets everyone's attention over a loudspeaker. Judith is there too, holding a demonstration outside the supermarket, and everyone is stunned to see Pat still alive. She gives a brief speech where she says she felt like she had to warn everyone about the threat from corporations and products, but she says "You don't really need me to tell you what's wrong with the world." She tells Rob to make sure the secret plans get into the hands of the authorities. Already only a few inches tall, Pat begins to shrink away to nothing, and Vance and the children arrive just in time for her to say goodbye to them before she seems to vanish, the tiny garment she wore blows away in the breeze, landing in the puddle of liquids near the table. The onlookers are mortified, especially Pat's family and friends. Unseen by anybody, the puddle begins to swirl, seemingly on its own.
Later that night, in a tribute to Pat, countries around the world simultaneously salute her with church bells, the news programs giving coverage and linking via satellite. Outside the Kramer residence, a police car discreetly pulls up and an officer comes to the front door, saying "This lady says she belongs here." A normal-sized Pat bursts inside, ecstatic to be home. The family is shocked and elated, and Concepcion screams and collapses. Sidney is at the house, too, and the kids tell her Vance said it would be alright if he lived with them. Pat babbles that the puddle seems to have reversed the shrinking process, returning her to her normal size. Vance tries to put her wedding ring back on, but it won't fit, and as she contemplates this, the shoe she is wearing suddenly bursts as her foot seems to enlarge all on its own. Pat gives a cryptic smile--apparently she's not done growing.