Hydraulic fracturing has been recognized as the necessary well completion technique to achieve economic production from shale gas formation. However, following the fracturing, fluid-wall interactions can form a damaged zone nearby the fracture characterized by strong capillarity and osmosis effects. Here, we present a new reservoir multi-phase flow model which includes these mechanisms to predict formation damage in the aftermath of the fracturing during shut-in and production periods. In the model, the shale matrix is treated as a multi-scale porosity medium including interconnected organic, inorganic slit-shaped, and clay porosity fields. Prior to the fracturing, the matrix holds gas in the organic and the inorganic slit-shaped pores, water with dissolved salt in the inorganic slit-shaped pores and the clay pores. During and after fracturing, imbibition causes water invasion into the matrix, and then, the injected water-clay interaction may lead to clay-swelling pressure development due to osmosis. The swelling pressure gives additional stress to slit-shaped pores and cause permeability reduction in the inorganic matrix. We develop a simulator describing a system of three pores, two phases (aqueous and gaseous phases), and three components (, and salt), including osmosis and clay-swelling effect on the permeability. The simulation of aqueous-phase transport through clay shows that high swelling pressure can occur in clays as function of salt type, salt concentration difference, and clay-membrane efficiency. The new model is used to demonstrate the damage zone characteristics. The simulation of two-phase flow through the shale formation shows that, although fracturing is a rapid process, fluid-wall interactions continue to occur after the fracturing due to imbibition mechanism, which allows water to penetrate into the inorganic pore network and displace the gas in-place near the fracture. This water invasion leads to osmosis effect in the formation, which cause clay swelling and the subsequent permeability reduction. Continuing shale-water interactions during the production period can expand the damage zone further.