North Korea is claiming to have reprocessed nuclear fuel rods that could produce enough plutonium for several atom bombs, according to a South Korean news agency.
The North is thought to have stored 8,000 spent fuel rods
It follows earlier reports from intelligence agencies that the process appears to be under way.
The US and South Korean governments have yet to confirm that North Korea is pushing ahead with the development of nuclear weapons.
But on Sunday, Australian Prime Minister John Howard said he was concerned that tensions over Pyongyang's nuclear programme could deteriorate into outright hostilities.
Mr Howard, speaking in Australia before leaving for a visit to the Philippines, Japan and South Korea, said North Korea was a rogue state and "clearly in breach of international obligations".
Since international monitors were expelled from North Korea six months ago, it has been hard for the outside world to know exactly what is happening at the country's nuclear facilities.
American satellites and spy planes have been keeping watch, but US officials concede their intelligence is imperfect.
But in recent days there have been a series of reports that the North has reprocessed spent nuclear fuel - the final step in the creation of weapons-grade plutonium for atom bombs.
The South Korean news agency, Yonhap, says North Korean diplomats told US State Department officials in New York that the process was completed on 30 June.
Japanese newspapers earlier quoted US intelligence as saying that a by-product of reprocessing, known as Krypton 85, had been detected in the air near the North's nuclear plants.
Mr Howard said diplomatic pressure was needed to return North Korea to the international community.
"We're dealing with a country that is not operating, as it were, within the square. This is a very dangerous situation," Mr Howard told reporters last week.
South Korea's intelligence agency believes reprocessing has begun, but the BBC's Charles Scanlon in Seoul says there is still confusion and ambiguity.
None of the governments in the region has officially accused the North of reprocessing.
The South Koreans say the evidence is still inconclusive and may even be part of an elaborate bluff by the regime in Pyongyang.
A decade ago the US made it clear that North Korea risked sanctions or even bombing raids if it increased its stockpile of plutonium.
The Bush administration has been less explicit, but diplomats say whatever its real intentions, North Korea is playing an extremely dangerous game.