The Anfield club announced the deal on Wednesday and Manquillo becomes manager Brendan Rodgers' seventh summer signing.
Manquillo says ''I'm very happy to have signed for a club like Liverpool. I think it's one of the biggest in Europe. Any footballer would want to come and play here,'' speaking to the club's official website.
''When they tell you Liverpool want to sign you, I think like any player, you are going to be absolutely amazed and you don't think of anything else than going straight there,'' added Manquillo.
The 20-year-old started his career with Real Madrid before joining city rivals Atletico in 2007. He has also represented the Spanish national side at various youth levels but is yet uncapped for the senior side.
Liverpool has been busy in the transfer market, having completed deals for Southampton trio Adam Lallana, Rickie Lambert and Dejan Lovren, as well as Emre Can, Lazar Markovic and Divock Origi.
Liverpool host Southampton on August 17 in their first match of the new English Premier League season.