Relatively unknown outside of France, Modiano's works have centred on memory, oblivion, identity and guilt that often take place during the German occupation of World War Two. He has written novels, children's books and film scripts.
"You could say he's a Marcel Proust of our time," Peter Englund, permanent secretary of the Swedish Academy, told reporters.
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Some of Modiano's roughly 30 works include A Trace of Malice and Honeymoon. His latest work is the novel Pour que tu ne te perdes pas dans le quartier.
French Prime Minister Manuel Valls said: "He is undoubtedly one of the greatest writers of recent years, of the early 21st century. This is well-deserved for a writer who is moreover discreet, as is much of his excellent work."
Modiano was born in the Paris suburb of Boulogne-Billancourt in July 1945, several months after the official end of Nazi occupation in late 1944.
He was a protege of novelist Raymond Queneau, famous for his experiments with language. Modiano has already won France's prestigious Goncourt prize in 1978 for his work.
"Of the unique things about him, one is of course his style which is very precise, very economical. He writes small, short, very elegant sentences," Englund said. "And he returns to generally the same topics again and again, simply because these topics cannot be exhausted."
Modiano became a household name in France during the late 1970s but never appeared comfortable before cameras and soon withdrew from the gaze of publicity.
He is also known for having co-written the script of Louis Malle's controversial 1974 movie Lacombe Lucien about a teenager living under the Occupation who is rejected by the French resistance and falls in with pro-Nazi collaborators.
"After each novel, I have the impression that I have cleared it all away," Modiano told France Today in a 2011 interview. "But I know I'll come back over and over again to tiny details, little things that are part of what I am."
"In the end, we are all determined by the place and the time in which we were born."
Jo Lendle, his German publisher at Hanser publishing house, said: "He was an author that was on the list for a long long time.
"We waited with him and now he won the prize. We are overwhelmed."
Bookies had made him one of the favourites along with Japanese writer Haruki Murakami and Kenyan writer Ngugi wa Thiong'o. US writer Philip Roth, a perennial contender, was also overlooked.
The most number of winners of the literature prize have gone to authors who have written first in English, followed by French and German. Modiano is the 11th person from France to win the literature prize - the last was Jean-Marie Gustave Le Clezio in 2008.
Literature was the fourth of this year's Nobel Prizes. The prize is named after Alfred Nobel, the inventor of dynamite, and has been awarded since 1901 for achievements in science, literature and peace in accordance with his will.
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