"We have just taken an important step to place Colombia at the forefront of the fight against disease, with a decree... That allows licenses to be granted for the possession of seeds, cannabis plants and marijuana, and for the plant to be grown for exclusively medical and scientific purposes," Santos said in a nationally televised address.
"Permitting the use of medical marijuana does not go against our international commitments on drug control," he added.
But it has shown signs of easing its hardline stance in recent months.
Santos's announcement follows a recent decision to stop aerially spraying the herbicide glyphosate on fields of coca, the raw ingredient for cocaine.
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The World Health Organization warned in April that the chemical, sold by US biotech company Monsanto under the brand name Roundup, is "probably carcinogenic."
Santos also announced in September that Colombia would begin giving land to farmers who stop growing coca.
It was authorized under a 1986 law, but the lack of regulation prevented production on a national level.
"The manufacture, export, sale, and medical and scientific use of this and other substances have been permitted for several decades in Colombia. However, they were never regulated. That is what we are doing today," Santos said.
Colombia decriminalized possession of up to 20 grams of marijuana in 2012, and it is legal to grow up to 20 cannabis plants. But consuming it in public and selling it are illegal.