Lugo, dubbed the "bishop of the poor", won the election on 20 April with promises to redistribute income and undertake land reform.
His success represents a break with the political tradition of Paraguay, where the Colorado Party has ruled for 61 years.
News of Lugo's win set off a huge party in Paraguay's capital, Asunción, and in other cities.
"There were young people, entire families, elderly people brandishing Paraguayan flags, and with the word hope on their lips," said visiting Argentine pastor Juan Gattinoni, an election observer for the Latin American Council of Churches (CLAI). "The Colorado Party has ruled for six decades so there are generations of people who have not known any other reality."
From 1947 to 1962 the Colorado Party was the only legal political party in Paraguay, and General Alfredo Stroessner ruled the country from 1954 until the military ousted him in 1989.
Lugo will be inaugurated as president on 15 August. He gained almost 41 percent of the vote, while his opponent Blanca Ovelar, the Colorado Party's candidate, earned about 31 percent.
Pastor Gattinoni recounted the reaction of a taxi driver in Asunción after he discovered his passengers were election observers: "'Thank you,' said the driver, 'because your presence meant that we were able to achieve this, that there was no fraud, and that the will of the people has been respected'."
Lugo announced in December 2006 that he intended to run for the presidency, after having resigned as bishop of San Pedro the previous year. At that time, he said he felt powerless to help the poor.
He petitioned Pope Benedict XVI to be allowed to return to the status of a lay person. The Vatican refused, saying ordination is a lifelong sacrament, but suspended Lugo from exercising a priestly ministry.
He became the candidate of the Patriotic Alliance for Change, a coalition of political parties and other groups from across the political spectrum.
His victory means the regional Latin American trade group Mercosur, comprising Argentina, Brazil, Uruguay and Paraguay, plus associate countries Chile and Bolivia as well as Venezuela, which is in the process of joining, is now made up of leftist leaders.
Still, though Lugo's success is seen as further evidence of a shift towards the left in Latin America, Lugo himself has shown signs of wanting to distance himself from more radical positions, such as those of presidents Hugo Chavez of Venezuela and Evo Morales of Bolivia.
The new Paraguayan president may also clash with neighbouring Brazil, as his campaign platform included a pledge to get this country, Latin America's biggest, to pay more for the energy it imports from the jointly owned Itaipu hydroelectric plant, located on the border between the two nations.
Lugo became a priest in 1977 and was sent as a missionary to Ecuador, where he became interested in liberation theology, a movement within the Church that stresses the need to redress the situation of the poor.
After being appointed a bishop in 1994, Lugo worked for a decade in the diocese of San Pedro, one of the poorest in Paraguay. There, he gained his "bishop of the poor" tag because of his work with landless people.
He resigned as bishop of San Pedro in 2005, and gained national attention the following year when he led a mass demonstration against the government of Nicanor Duarte Frutos.
Lugo's victory is a sign of a new sense of hope and optimism in a country where most people had come to despise politicians, noted British-based Latin American specialist Andrew Nickson.
"The fact that Lugo was not a 'politician' was thus one of the strongest sources of his electoral appeal, and helped make him the catalyst for this shift," Nickson wrote on the Web site www.opendemocracy.net.
"But as he dons the presidential sash on 15 August, he will be assessed no longer as a 'man of God' but as a mere politician."
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