Britain's involvement in the war in Iraq galvanised support for al Qaida among Muslims in the UK, former MI5 boss Dame Eliza Manningham Buller said.
The conflict provided a battleground on which "Jihad" could be fought, and British citizens travelled to support Saddam Hussein's regime in its battle against the bid to topple him.
In a lecture in central London, she said: "It increased the terrorist threat by convincing more people that Osama Bin Laden's claim that Islam was under attack was correct.
"It provided an arena for the Jihad for which he had called - so that many of his supporters, including British citizens, travelled to Iraq to attack Western forces."
Dame Manningham Buller, who has previously revealed reservations about the UK's decision to go to war in Iraq, was speaking to a live audience at BBC Broadcasting House on the subject of terror.
It was the first of a series of three BBC Radio 4 Reith Lectures to be given by the former director general of MI5, called Securing Freedom.
She said: "It [the Iraq war] also made very clear that foreign and domestic policy are intertwined. Actions overseas have an impact at home. And our role in Iraq spurred our young British Muslims to turn to terror."
Dame Manningham Buller said she did not like the term "War on Terror", which was widely used by the US and UK governments in the wake of 9/11.
Calling terrorism a "crime, not an act of war", she said that terrorism was "a violent tool, used for political reasons" to put pressure on governments by creating fear in the population.
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She said calling it a "war" legitimised terrorism, and added: "Terrorism will continue in some form, whatever the outcome, if there is one, of such a war."
