The 23-year-old, who has won 41 international caps and captained the German club, joins for a reported £35m on a long-term contract.
“I’m very proud to be joining Arsenal,” said Xhaka. “I cannot wait to move to London, represent this special club and play in the Premier League.
“I will give everything to help Arsenal win trophies and make the fans happy.”
Arsenal manager Arsene Wenger said: “Granit Xhaka is an exciting young player, already with good Champions League and Bundesliga experience.
“We have been watching him for a long time now and he is a player who will add quality to our squad.”
Xhaka, who scored six goals in 108 Bundesliga appearances, will join up with his new team-mates after Euro 2016, which runs from 10 June to 10 July.
The former Basel player is Arsenal’s first signing since the end of a season in which they finished runners-up to Premier League champions Leicester.
Experienced midfielders Mikel Arteta, Tomas Rosicky and Mathieu Flamini are set to leave Emirates Stadium this summer.
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