There's a few things to dismantle in this question, and answering it will require a bit of metallurgy too, so fair warning.
Firstly, I disagree that people think it's an unbeatable steel. I think most people realise that whilst good for it's time, ancient steels (damascus or otherwise), are significantly outclassed by modern steel.
When we talk about "ancient" damascus steel, we are usually referring to wootz crucible steel, an ultra-high carbon crucible steel typified by carbide segregation. The origin of the name in contentious - The Islamic writers al-Kindi (full name Abu Ya'qub ibn Ishaq al-Kindi) (circa 800 AD - 873 AD) and al-Beruni (full name Abu al-Rayhan Muhammad ibn Ahmad al-Biruni) (circa 973 AD - 1048 AD) were both scholars who wrote about swords and steel made for swords, based on their surface appearance, geographical location of production or forging, or the name of the smith. There are three potential sources for the term "Damascus" in the context of steel. The word for water in Arabic is "damas" (Sachse, 1994, 13) and Damascus blades are often described as exhibiting a water-pattern on their surface, and are referred to as "watered steel" not only in english but in other languages. The second theory is geographical, as Al-Kindi called swords produced and forged in Damascus as Damascene (al-Hassan, 1978, 35) but its worth noting that wootz blades were made all over the place. Third, Beiruni mentions a sword-smith called Damasqui who made swords of crucible steel (Said, 1989, 219-220).
Many people conflate pattern welded steel with wootz, and call both damascus. Whilst this is accepted in colloquial language, it is important to distinguish between the two.
Wootz is made in a crucible process, and requires completely liquification of the crucible charge. In order to form patterns, carbide formers like vanadium, tungsten or manganese are necessary, with vanadium being the most common historical alloying elements. These carbide formers cause the segregation of hard cementite carbides. During the forging of the crucible steel "puck", these carbide formers are pushed into parallel, layered sheets in the microstructure of the steel (Verhoeven et al, 1998). Because vaandium does not readily dissolve at forging temperatures, and does not migrate at forging temperatures, these sheets of carbide formers form distinct bands in the steel. As the steel is heat cycles, carbides aggregate onto the vanadium ions and form spheroids of cementite. The interdendritic regions without vanadium form as pearlite, a soft carbide, or sorbite, and imperfect form of pearlite. This is diagnostic of wootz steel (Verhoeven et al 2018, Feuerbach 2002, Feuerbach 2006). See this guide I prepared for visual examples : https://i.imgur.com/qCtO6kk.jpg
Pattern welded steel (99.99% of what is sold as damascus steel today) is made using layers of steel forged together. The contrast is caused by differences in corrosion resistance between different steel alloys. It is common to use nickel steel and plain carbon steel, as the nickel resists etching.
Regarding the historical reputation of wootz steel swords: they were always very expensive, very desirable, and very well thought of - HOWEVER - there are accounts from the 14th century of cold-short blades (high in phosphorus) which claims that wootz swords are prone to breakage in cold weather (Ibn Hodeil).
Al-Idrisi (Full name Abu Abd Allah Muhammad ibn Muhammad ibn Abd Allah ibn Idris al-Idrisi) (circa 1100 AD - 1166 AD) claimed that "nothing could surpass" the edge of a wootz sword.
Bertrandon de la Brocquiere, a Frenchman, wrote about his travels to the Middle East in 1432–33. He wrote: Damascus blades are the handsomest and best of all Syria... I have nowhere seen swords cut so excellently. They are made at Damascus, and in the adjoining country.
In the early 1600's, Polish king Zygmunt III Waza ordered a Armenian merchant to purchase a number of watered steel blades from Isfahan, Persia (one of which I own - https://youtu.be/cYEjEt3nQ6A ) due to their value and reputation (Muratovich et al, 1777).
The reality is that Wootz was by nature very clean with minimal slag - which made it less likely to break due to inclusions - and there is a lot of variation in the metallurgical composition of wootz. Some have higher carbon, or more phosphorus, and the quality varied. Heat treatment also widely varied.
Compared to bloomery steel which was folded and consolidated, it's more uniform and much lower in slag. It can be more brittle, depending on the heat treatment and phosphorus and sulfur contents, or it can be much more flexible. It really depends on the exact sword being analysed.
Al-Hassan, A.Y., 1978, Iron and Steel Technology in Medieval Arabic Sources, Journal for the History of Arabic Science 2: 1,31-43
FEUERBACH, A. M. 2002. Crucible steel in Central Asia: production, use and origins.
FEUERBACH, A. 2006. Crucible damascus steel: A fascination for almost 2,000 years. JOM, 58, 48-50.
Muratowicz, Sefer, Józef Epifani Minasowicz, and Wawrzyniec Mitzler de Kolof. Relacya Sefera Muratowicza Obywatela Warszawskiego Od Zygmunta III Krola Polskiego Dla Sprawowania Rzeczy Wysłanego do Persyi w Roku 1602. W Warszawie: w Drukarni J. K. Mci y Rzpltey Mitzlerowskiey, 1777.
Sachse, Damascus Steel: Myth, History, Technology, Applications (Wirtschaftseverk: N.W. Verl. Fur Neue Wiss, 1994).
Said, Al-Beruni's Book on Mineralogy: The Book Most Comprehensive in Knowledge on Precious Stones (Islamabad: Pakistan Hijra Council, 1989), pp. 219–220.
Verhoeven, J., A.H. Pendray, WE. Dauksch, 1998, The Key Role of Impurities in Ancient Damascus Steel Blades, JOM 50:9, 58-64
The superiority of good steel over iron, and the superiority of good steel over bad steel was recognised. Swords, in particular, are a technology that can benefit from good steels, since hardness provides long-lasting sharp edges, and toughness is important. Swords are also the most famous product contributing to the fame of damascus steel (see footnote). However, good swords made of good crucible steel don't appear to have been considered notably better than good swords made of good bloomery steel (whether pattern-welded, laminated, or all-steel), or good swords made of good steel produced by decarburising cast iron. Various evidence for this includes:
Al-Kindi and al-Biruni wrote about swords, including both crucible steel swords and pattern-welded swords made from bloomery steel and iron. Both note the superiority of pattern-welded or laminated blades of bloomery steel and iron over all-iron blades (too soft) and all-steel blades (too brittle). Neither describes crucible steel as an awesome super-steel, nor crucible steel swords compared to bloomery steel/iron swords as awesome super-swords. Both have a high regard for good pattern-welded/laminated swords (and also for good crucible steel swords, of course). Translations of both al-Kindi and al-Biruni are available in Hoyland & Gilmour (2006).
In India, Persia, and Turkey, in the past few centuries from which many swords survive, pattern-welded swords co-existed with crucible steel swords. Clearly, both were considered usable, with neither being so much better than the other to switch to the other technology.
When European blades became available in India, they were popular enough, including for fancy swords for the elite. In the 13th century, some even considered European swords to be sharper and better than Indian ones (Elgood 2011).
In China, 3 different steel-making technologies were used: bloomery steel, crucible steel, and steel produced by decarburising cast iron (this last being the main method since the Han Dynasty). All of these types of steel were used for swords. None were regarded as super-steels compared to the others.
In the East/South-East Asian steel and arms trade, European traders were selling Indian crucible steel in East Asian and SE Asian markets. Japan was a competing major exporter of steel and steel weapons. Neither the Japanese bloomery steel nor the Indian crucible steel was seen as greatly better. At times, Japanese exports outcompeted European/Indian steel, and sometimes the Indian product sold well. Indian steel was even bought by the Japanese.
All of these point to the general perception that good steel was good steel, and good steel could be either crucible steel or bloomery steel (and in China, decarburised cast iron). Crucible steel (i.e., damascus steel (but see footnote)) was not considered an "awesome legendary unbeatable" steel.
The perception of crucible steels as "super-steels" appears to be quite modern, mostly developing in the 19th century. Perhaps when the sword had been pushed off the European battlefield by the gun, except as a cavalry weapon and a dress item (and the standard of swordsmanship was often rather poor), damascus steel swords were more exotic than when swords were everyday items.
Helmut Föll, in his "Iron, Steel and Swords", https://www.tf.uni-kiel.de/matwis/amat/iss/index.html discusses ancient, medieval, and later writings about crucible steel. These accounts largely agree with my point above. These can be read at:
https://www.tf.uni-kiel.de/matwis/amat/iss/kap_a/advanced/ta_4_1.html
https://www.tf.uni-kiel.de/matwis/amat/iss/kap_a/advanced/ta_4_2.html
Footnote:
"Damascus" historically refers to steels with a "watered" pattern, including both patterned crucible steels and pattern-welded steels. But usually when people talk about "damascus steel" and a wonderfully amazingly great Middle Eastern steel, they mean crucible steel. So here I will talk about what it looks like people in the past thought about crucible steels vs other steels. We can also note that Japanese blades, laminated blades combining bloomery steel/iron of varying carbon content, have their own extreme fandom (a large part of which is based on the supposed superiority of folded steels, though folding bloomery steel and iron was a standard part of the process around the world).
References:
Robert Elgood, "Swords in the Deccan in the Sixteenth and Seventeenth Centuries: Their Manufacture and the Influence of European Imports", pp 218-233 in Navina Najat Haidar and Marika Sardar (eds), Sultans of the South: Arts of India's Deccan Courts, 1323-1687, Metropolitan Museum of Art, 2011.
R. G. Hoyland and B. Gilmour, *Medieval Islamic Swords and Swordmaking", Gibb Memorial Trust, 2006.
Relevant past discussion by u/WARitter and myself:
