The 37 year-old, who joined after leaving Manchester City in 2017, is now committed to Stamford Bridge until the end of the 2019-2020 season.
"I am very happy to renew my contract with Chelsea and hopefully we can enjoy the next season and achieve a lot of targets," he said. "For me to stay at a big club like Chelsea was a really easy decision."
Chelsea director Marina Granovskaia added: "Willy is an excellent professional who has served us extremely well over the past two years.
"He has provided reliable back-up in that time and enjoyed some memorable performances, as well as helping us secure the FA Cup last season and reach the Europa League final later this month.
"He has also been a positive presence at the training ground, demonstrating dedication and professionalism every day and helping bring out the best in our first-choice goalkeepers. We are pleased to retain his services for the 2019-20 season."
Caballero has played 22 times for Chelsea, having operated mostly as a back-up to Thibaut Courtois and then Kepa Arrizabalaga this season.