Former prime minister Kevin Rudd made an emotional and ignominious exit, quitting just before the Labor party was to set dump him in a leadership ballot.
The Rudd government's dramatic slide in support this year sparked fears within the ruling party of an electoral defeat at a poll expected around October.
"I asked my colleagues to make a leadership change because I believed that a good government was losing its way," Gillard told a news conference.
Centrebet bookmaker made a Gillard Labor government outright favourite to win the next election, expected around October.
Gillard, 48, immediately offered to end a bitter dispute over a controversial "super profits" mining tax, which is threatening $20 billion worth of investment and has unnerved voters, saying she would throw open the door for fresh negotiations.
But she stressed miners should pay more tax.
"To reach a consensus we need to do more than consult, we need to negotiate. We must end this uncertainty which is not good for this nation," she said, adding the government would end its mine tax advertisements and called on miners to withdraw their multi-million dollar ad campaign which was worrying voters.
The Australian dollar briefly jumped after the leadership change, while shares in BHP Billiton, the world's biggest miner, and Rio Tinto rose 2%, on hopes of a mining tax compromise, before coming off their best.
Gillard's takeover would see the government resurrect its failed climate change policy, a carbon trade emissions scheme, with the new prime minister saying she was disappointed in the government's failure to pass laws to set a price on carbon.
"If elected as prime minister I will re-prosecute the case for a carbon price at home and abroad. I will do that as global economic conditions improve and our economy continues to strengthen," she said.
Rudd became the shortest-serving Australian prime minister since 1972, with his leadership falling apart after a string of poor opinion polls showed him losing ground over recent decisions to shelve a carbon-reduction scheme and impose a new mining tax.
"I have given my absolute all. I was elected by the Australian people as the prime minister ... to bring back a fair go for all Australians," said Rudd, choking back tears.
Government lawmakers believe Gillard has a better chance of winning back voters ahead of elections because she is a warmer personality who can sell policies more effectively.
Gillard will automatically attract a large female vote, especially when compared with conservative opposition leader Tony Abbott, who is anti-abortion and opposes sex before marriage.
A recent opinion poll showed, female voters would ditch Abbott for Gillard, favouring the female leader by a commanding 53% to 23% for Abbott. Gillard quickly sought to establish her differences with Rudd by pledging a more consultative leadership and action to resolve such vote-shredding issues as the mining tax and climate change.
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