The European Parliament President, Martin Schulz, presented the award to the 16-year-old who was nominated for the Nobel Peace Prize earlier this year. (Agencies)
Malala dedicated the award to "the unsung heroes of Pakistan" and to human rights campaigners worldwide.
"I am hopeful the European Parliament will look beyond Europe to the suffering countries where people are still deprived of their basic rights, their freedom of thought is suppressed, freedom of speech is enchained," she said.
Malala was shot in the head a year ago for campaigning for better rights for girls in Swat Valley of northwest Pakistan, an erstwhile Taliban stronghold.
The Sakharov Prize for free speech is awarded by the European Parliament annually in memory of Soviet physicist and dissident Andrei Sakharov.
The 50,000-euro (USD 65,000) prize is considered Europe's top human rights award. Malala joins a distinguished list of winners of the prize that includes South Africa's Nelson Mandela and Aung San Suu Kyi of Myanmar.
Malala rose to prominence in 2009 for anonymously writing a blog for BBC Urdu about life under Taliban rule and the lack of education for girls in the mountainous Swat Valley.
She became internationally known after the Pakistan Army pushed the Taliban out of the area in 2009.
A Taliban shot her as she was riding in a bus with school friends. She was brought for treatment to Birmingham, where she now lives with her family.
The European Parliament President, Martin Schulz, presented the award to the 16-year-old who was nominated for the Nobel Peace Prize earlier this year.