At a news conference, Rousseff praised the two-time president, known popularly as "Lula," for stepping up to the plate to help her embattled government.
"He comes with his knowledge of the country, of the needs of the country and his commitment ... it is going to be a huge boost for my government," she said.
Supporters hope Lula da Silva will help shore up support among party faithful despite a prolonged recession and rock-bottom approval rating for Rousseff.
"He comes with his political capital; he's a great communicator," Rousseff said. "He makes me very comfortable"
His supporters also hope the former president can help negotiate with political allies to prevent the impeachment of Rousseff, which would be the end of an era for the Workers Party, in power since 2003 when Lula da Silva first became president.
'Get out of jail free card'
Impeachment proceedings have already been opened
in Congress over alleged attempts to hide budget shortfalls ahead of elections in 2014. But it's not clear if Lula da Silva can rally the support needed to prevent it.
Critics, however, called the move a "get out of jail free card" aimed at shielding Lula da Silva from possible imprisonment as part of ongoing corruption investigations
In a sign of heightened political tension, anti-government protesters gathered outside the presidential palace in Brasilia and along a main avenue in Sao Paulo on Wednesday night to denounce the Cabinet appointment.
In many cities on Wednesday night, residents banged pots out their windows and honked horns in anger.
Nearly two weeks ago, federal police raided Lula da Silva's home and took him in for questioning on suspicion he benefited from a bribery and money laundering scheme involving state-run oil company Petrobras -- an operation known as "Car Wash."
Separately, state prosecutors in Sao Paulo charged him with money laundering and requested preventive detention.
But under Brazilian law, senior political figures, including ministers and federal lawmakers, can only be tried in the Supreme Federal Tribunal. He could eventually face trial at the SFT, but the process would be dragged out.
In a dramatic twist Wednesday night, the judge leading the "Car Wash" trial released phone recordings of Lula da Silva, including a conversation he had with Rousseff about the chief of staff post.
In the recording, she says she would send a document confirming the appointment for him to use "if he needed" -- prompting some critics to say it is evidence of a political maneuver aimed at protecting Lula da Silva.
Rousseff's office didn't immediately comment, while a lawyer for Lula said on Globo television that it was an attempt to stir things up politically.
Meanwhile, there has been speculation that Lula da Silva could shake up economic policy and push for more of the social spending that made him such a popular leader. Markets sank in response to the announcement, with the real weakening against the dollar and stocks declining.
But on Wednesday, Rousseff rejected speculation that Lula da Silva's appointment would lead to the ouster of the Central Bank president or would prompt her government to dip into its reserves.