The Italian has signed a two-year deal at the npower Championship club after the Hornets' new owners confirmed the sacking of Sean Dyche on Friday.
"Everyone knows how Gianfranco Zola likes football to be played," Watford technical director Gianluca Nani told the club's official website.
"I think Watford's fans can expect an exciting and attacking style from his team. Gianfranco represents this project perfectly."
The appointment completes Zola's return to English football two years after he left West Ham.
It had been expected since the Pozzo family, who completed their takeover of the club from Laurence Bassini last week, revealed the 46-year-old Italian was their preferred candidate.
The Pozzo family also own Serie A side Udinese and La Liga outfit Granada.
The former Chelsea player had two seasons in charge of the Hammers, impressing in the first as he led the club to ninth place in the Premier League in the 2008/09 season.
He struggled badly the following campaign, though, as his side finished just one place above the bottom three and he left his post two days after the end of the season.
Zola, who previously coached the Italy Under-21 side, is best known for a seven-year spell as a player with Chelsea, though, when he established himself as one of the most talented and possibly the best loved foreign player to play in the Premier League.
But he will not have an easy act to follow at Watford, with Dyche helping them finish a respectable 11th in his only season at the helm after succeeding Malky Mackay.
Gianfranco Zola factfile
1966: Born in Oliena, Sardinia on July 5.
1984: Signs first professional contract with Nuorese, for whom he scores 10 goals in 31 appearances.
1987: Remains in Sardinia and signs for Serie C outfit Sassari Torres and nets 21 times in 88 games.
1989: Joins Serie A side Napoli, where he serves as an understudy to Diego Maradona.
1990: April - Part of the Napoli side which wins the Scudetto for only the second time in their history.
August - Helps Napoli win the Italian Super Cup with a 5-1 win over Juventus.
1991: November - Called up to the full Italy squad and makes his debut in a friendly against Norway.
1993: Joins Parma after Napoli finish a disappointing 11th in Serie A.
1994: June - Part of Italy's squad for the World Cup in the USA. Italy reach the final but Zola only features in the 2-1 extra-time victory over Nigeria in the last 16.
1995: Plays in both legs of Parma's 2-1 win over Juventus in the UEFA Cup final.
1996: New Parma coach Carlo Ancelotti decides Zola will not fit into his system and he is signed by Chelsea boss Ruud Gullit for £4.5million.
1997: February - Scores the only goal of the game with a superb strike from a narrow angle past Ian Walker to give Italy a 1-0 win over England in a World Cup qualifier at Wembley.
May - Named Football Writers' Association player of the year.
October - Wins the last of his 35 caps against England in a World Cup qualifier in Rome.
1998: Left out of Italy's squad for France '98.
2000: May 20 - Helps Chelsea land the FA Cup with a 1-0 win over Aston Villa at Wembley.
2003: January - Overwhelmingly voted Chelsea's best player ever in a fans'
poll, ahead of Peter Osgood, Dennis Wise and Jimmy Greaves.
July - Swaps Chelsea for Serie B side Cagliari despite an 11th-hour bid from new Blues owner Roman Abramovich to keep him at the club.
2004: Achieves promotion to Serie A with the Sardinian club.
2005: June - Retires at the age of 38.
2006: Accepts role as assistant to Italy Under-21 boss Pierluigi Casiraghi.
2008: March - Admits he would be interested in managing in the Premier League, preferably with old club Chelsea.
September 10 - Agrees a three-year deal to become West Ham manager.
2009: April 25 - Signs new contract to keep him at Upton Park until 2013.
May - Leads Hammers to ninth-place finish in Premier League.
2010: March 25 - West Ham co-owner David Sullivan slammed the club's performance in their 3-1 home defeat to Wolves as "shambolic" and "pathetic".
March 27 - Zola says he will consider his future after the home loss to Stoke - a sixth defeat in succession.
March 29 - Zola tells the club's website he is "determined to carry on" as West Ham manager.
April 24 - West Ham beat Wigan 3-2 to all but confirm their safety, easing the pressure on Zola.
April 30 - Zola admits he had not been consulted about the club's £4million bid for West Brom's Graham Dorrans, or Sullivan's announcement the entire squad was for sale except Scott Parker.
May 3 - West Ham's safety is confirmed as Hull fail to beat Wigan.
May 9 - Season ends with 1-1 draw against Manchester City.
May 11 - Has contracted terminated by West Ham.
2012: July 7 - Named manager of Watford, signing a two-year deal with the Championship club.