Sanchez was injured July 8 in a crash during the Tour de France, hurting his right hand and left shoulder. He withdrew from the Tour de France and subsequent examinations led him and his team to conclude Sanchez wouldn't be able to withstand the demands of the Olympic road race.
Sanchez, 34, said the withdrawal announcement was his "most painful decision."
"I am the Olympic champion and I wish to defend a medal that changed my life," Sanchez said. "After that victory, I have a street with my name, a life-size statue reflects the time when I bit the medal ... . It was a very significant victory."
Sanchez won the 152.5-mile road race, finishing in 6 hours, 23 minutes, 49 seconds, with the first five riders receiving the same time.
The Sanchez withdrawal was the second hit for the Spanish team this week. Earlier, Rafael Nadal, who won the men's singles tennis gold medal in Beijing, said he wouldn't travel to London for the Olympics. Nadal had also been chosen as the Spanish flag bearer for the Opening Ceremonies.
Spanish Olympic officials on Friday said basketball player Pau Gasol, who plays for the NBA's Los Angeles Lakers, would be their flag bearer.