In a world first, the government said it would control the production, distribution and commercialisation of marijuana.
Under the proposed plans, the state would sell marijuana to citizens, who would have to register on a database. It would also impose a maximum of 'marijuana cigarettes' that can be consumed – reported to be 40 per month.
Those who exceed that consumption level will be sent to rehabilitation centres, to be financed by the government with taxes from marijuana sales.
Defending criticism of the announcement, José Mujica, the Uruguayan president, told a Brazilian newspaper: "Uruguay is not proposing a legalisation that allows anybody to go to a shop and buy the amount of marijuana that he likes. The state will control quality, quantity and price.
"And if somebody buys 20 marijuana cigarettes, he will have to smoke them. He won't be able to sell them."
Two bills will be soon be sent to Congress, where Mr Mujica has a majority in both houses. If passed, the Uruguayan government would become the first national government to sell marijuana directly to its citizens.
The personal consumption of marijuana was already decriminalised in Uruguay.
The government said the measures were an attempt to tackle the increase in drug-related crime. The murder rate has nearly doubled in the last year – from 76 to 133 – according to the interior ministry.
Eleuterio Huidobro, the defence minister, framed the plans as a "war on cocaine", a drug which the government views as responsible for social problems in Uruguay, a country of just 3 million people that borders Argentina and Brazil.
Mr Huidobro said the legalisation will reduce drug traffickers' earnings and encourage cocaine addicts to opt for marijuana, which is recognised as being less harmful.
"We are fighting against both consumption and trafficking," he said. "We believe that prohibition is creating more problems for Uruguay than the drug itself."
President Mujica said: "There's nothing more important than peace. We can't go on fracturing this country and losing lives."
The government said it would lobby for the legalisation of marijuana across South America, a continent which has been torn apart by drug-related crime in recent decades.
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