Gadaffi was elected in a closed-door vote by the 53-nation African Union during its summit in the Ethiopian capital.
"I hope my term will be a time of serious work and not just words," the 66-year-old said in his inaugural speech.
"I shall continue to insist that our sovereign countries work to achieve the United States of Africa," he said, admitting that African leaders were "not near to a settlement" on the issue. "We are still independent states."
"It is your decision to respond to the call for unity, to push Africa forward towards the United States of Africa."
Gadaffi is one of Africa’s longest-serving leaders, having taken power in a coup at the age of 29 in 1969.
A natural showman known for his flamboyant attire, he has succeeded in getting traditional African leaders to bestow on him the title "King of Kings" as part of his new role.
Resplendent in flowing golden robes, Gadaffi was followed by a retinue of traditional kings at the summit, some bedecked in gold jewellery from head to toe and in glittering layers of traditional dress.
Gadaffi had criss-crossed the continent ahead of the summit to build support for his election.
The Libyan leader was for years ostracised by the West over his alleged role in terror attacks, including his country’s involvement in the 1988 bombing of a United States airliner over Lockerbie, Scotland, that killed 270 people.
Relations had been severed with the US since 1981.
However, they were restored in early 2004 after Gadaffi announced Tripoli was abandoning efforts to acquire weapons of mass destruction and took responsibility for the Lockerbie bombing.
As part of his return to the international scene, Gadaffi has long championed greater unity in Africa to boost the continent’s profile, and by default, his own influence.
He was a key architect of the transformation of the Organisation of African Unity into the African Union in 2001.
At the current summit, he has pushed for even closer ties among African nations, to create a federation under a "union government".
But many African leaders are loathe to relinquish any of their sovereignty, and during closed-door talks on Sunday, they again blocked moves towards his dream of closer union.
Although Gadaffi’s diplomatic ties with the world have improved, he remains the target of fierce criticism from human rights group for his autocratic rule in Libya.
"Libya has no independent NGOs and the government tightly controls all forms of public expression," said Reed Brody, a Human Rights Watch campaigner attending the summit.
"The Libyan government continues to imprison people for criticising Gadaffi. Hundreds have been ‘disappeared’," he added. — AFP