Labbadia, the 46-year-old former Bayern Munich striker, took over in December 2010 after spells at Bayer Leverkusen and Hamburg SV.
"Since we started we have been going down this intense road without any compromise and we still have some way to go," Labbadia said in a club statement. "We want to create a team that is fun and excites."
Stuttgart, who lost 2-0 to Bayern Munich last week, are in 11th place in the Bundesliga and still in the Europa League.
The 2007 Bundesliga champions signed striker Federico Macheda on loan from Manchester United last week.