Last summer, iPhone 4 doubled its screen resolution in both directions (from 320x480 to 640x960), resulting in four times the pixels and an industry-leading pixel per inch density of 326. Apple called the new screen the "Retina Display," because it exceeded the typical resolution of the human eye, making individual dots all but impossible to discern.
The original iPad offered a 1024x768 resolution (at 132 ppi), leading many to guess that the next version might also get a similar Retina Display. However, a 300+ ppi display covering a 9.7 inch screen would require a fantastically high resolution.
Instead of aiming for a specific pixel density, it appears Apple will instead simply quadruple the iPad's native resolution as it did when it introduced iPhone 4, resulting in a very high resolution display with a pixel density of around 260 ppi, short of "Retina" status but still higher than most high end smartphones.
Evenly quadrupling the resolution makes it easy for developers to ship apps that take full advantage of both existing and new screen resolutions by simply including two versions of graphic assets, one labeled (by Apple convention) file.png and and a higher resolution version named email@example.com.
Apple has reportedly slipped multiple examples of "@2" graphics in versions of its iBooks app, one targeted at iPhone 4 and another at a high resolution future iPad, according to tweets and a separate developer report. This includes "bookmark-ribbon-iPad@2x.png" and a "Wood Tile@2x.png" background image that covers 1536x800, rather than the standard 768x400 image used on iPad.
In order to handle that massive jump in resolution, iPad 2 would likely need a big boost in processing power, particularly its GPU. Recent rumors have suggested that Apple will address that need with a new version of its custom A4 ARM application processor, possibly named either the A5 as suggested by Engadget or A8, as postulated by a source in Hong Kong.