The 23-year-old joined Atletico Madrid in summer 2015 from Monaco and has become one of the club's most important players. He will stay until 2022 with the Spaniards.
Carrasco said: "I'm very happy to carry on for many more years with Atletico".
The club's sporting director added: "It's great news for everyone involved with Atletico".
He has scored this season five goals in eleven appearances.
@CarrascoY21 amplía su contrato hasta 2022 ¡Enhorabuena crack! https://t.co/EHE0V83BcN #Carrasco2022 #AúpaAtleti pic.twitter.com/tCVm8B9kTC
— Atlético de Madrid (@Atleti) 21 de octubre de 2016