Authorities said the sparse rainfall and the prolonged heatwave had put a “huge strain” on rivers and reservoirs.
The threshold to move southwest Wales into drought status was met on Friday, they said.
Much of England is also in an official drought following months of low rainfall and dry weather.
Hosepipe bans are being introduced in a bid to preserve water resources, including one in Pembrokeshire and a small area in nearby Carmarthenshire in Wales that came into force on Friday.
Areas covered include North Ceredigion, Teifi, Pembrokeshire, Carmarthen, Swansea, Llanelli, Neath Port Talbot and Bridgen.
The decision to move the southwestern area into drought status was taken by Natural Resources Wales and the Welsh government’s drought liaison group.
“Prolonged dry weather can lead to drought when rainfall remains low,” Natalie Hall from Natural Resources Wales said.
The group’s water manager said these weather conditions can impact precious habitats and species, as well as water supplies.
“We have decided to declare a state of drought in southwest Wales after it was clear the lack of rain and recent heat have put a huge strain on our rivers, reservoirs and groundwater levels,” she said.
“While certain parts of Wales may be experiencing rain, it can still take a long time to recover from drought, making water a precious resource.”
The whole region had just 65.5 per cent of its average rainfall in July and all river levels are lower than expected for this time of the year, with the Ewenny, Teifi and Taf being “exceptionally low”, according to Natural Resources Wales.
Water levels are so low that in recent days the remnants of Llanwddyn village in Powys, which was flooded in the 19th century to create Lake Vyrnwy reservoir and supply water to Liverpool, has re-emerged.
The rest of the country is also being affected by the dry weather, with Wales experiencing its driest five-month period in 40 years between March and July.
England has also been affected by a lack of rainfall. The country recorded its driest July this year since 1935.