The 29-year-old lock has led Ireland on just four occasions and becomes the nation's 10th Lions captain.
O'Connell said: "It's a fabulous honour. This was never something I aspired to do but to be selected is a great honour.
"I looked at the squad last night and it will be a privilege to lead them. It's a great honour considering the captains that have gone before me, some of them legends of the game.
"Brian (O'Driscoll) gave me a ring the other day after we had spoken to Ian and was great about it.
"The main thing will be leaning on the experience of the coaches and leaders within the squad.
"It needs to be a big squad effort. That will be the secret to any success. The more people who have input the better."
O'Connell won three Lions caps against New Zealand in 2005 and was one of only two tourists to play in every minute of each Test, except for a spell in the sin-bin.
Since making a try-scoring debut against Wales in 2002 he has amassed 62 caps and become one of the northern hemisphere's most respected players.
A destructive ball-carrying lock, he plays with an intensity and controlled aggression that has invited comparisons with Martin Johnson, who led the successful 1997 Lions tour to South Africa.
As Ireland's go-to man up front the Munster captain, who was at the helm for last year's Heineken Cup triumph, offers a formidable presence at the coalface.
He emulates England second row great Johnson in leading the Lions despite not being national skipper at the time.
Back in 1997 Ian McGeechan selected the intimidating Johnson to spearhead the challenge against the Springboks as a statement of intent and it is clear the Scot, head coach once again, sees O'Connell fulfilling a similar role.
McGeechan said: "Paul has proved himself with Munster and Ireland.
"He drives a forward pack with his character and it was important to have that focus in the forwards.
"We need that impetus up front and Paul is a very special character."