The 16-year-old unleashed an incredible sprint over the concluding freestyle leg to stop the clock at four minutes 28.43 seconds and became the first woman to break a long-course world record since the ban on polyurethane bodysuits at the end of 2009.
She slashed more than a second off the previous record of 4:29.45 set by Australia's Stephanie Rice at the 2008 Beijing Olympics.
America's Elizabeth Beisel, the reigning world champion for the gruelling event, finished second in 4:31.27 after snatching the lead at the end of the breaststroke leg.
China's Li Xuanxu came third in 4:32.91, giving China their third medal in the pool on the first day of competition after Sun Yang won the men's 400 freestyle gold.
Ye won the 200 individual medley title at last year's world championships in Shanghai but finished fifth behind Beisel over the longer distance.
Beisel was just 15 and the youngest member of the U.S. swimming team at the 2008 Beijing Olympics but came home without a medal, finishing fourth in the 400 medley final and fifth in the 200m backstroke.
She trains in Florida alongside Ryan Lochte, who won the men's 400 medley gold on Saturday as the U.S. and China slugged it out for top honours in the pool.
Rice made Saturday's final but finished out of the medals.
Australia stormed to a surprise victory in the women's 4x100 metres freestyle final later on Saturday.
The quartet of Alicia Coutts, Cate Campbell, Brittany Elmslie and Melanie Schlanger won gold in a combined time of three minutes, 33.15 seconds.
The Netherlands, who had won the gold at the last Olympics and the previous two world championships, flashed home to finish second and grab the silver medal in 3:33.79.
The United States finished third to provide Colorado teenager Missy Franklin with her first Olympic medal and Natalie Coughlin her 12th, matching the record for an American female athlete at the Olympics.
Franklin, who is swimming seven events in London, gave the Americans a flying start when she led after the lead-off leg. The US were still ahead at the halfway stage but Australia took over on the third leg and never surrendered their lead.