Simpson managed to find another gear on the home straight as she fought desperately to retain her title but it was too late and Aregawi, who has lived in Sweden since 2002 and was cleared to compete for the country last December, crossed the line clear of the field in four minutes 2.67 seconds.
American Simpson, her ponytail bobbing behind her, had to settle for silver in 4:02.99 and Kenya's Hellen Obiri took the bronze with 4:03.86.
There was to be no further medal celebrations for the Dibaba family as Aregawi's former Ethiopian team mate Genzebe, younger sister of 10,000 metres world champion Tirunesh, could only manage eighth.
American 17-year-old prodigy Mary Cain, coached by Alberto Salazar - the man credited with making Britain's multi distance champion Mo Farah into a winner - was 10th.
Turkey's Olympic champion Asli Cakir Alptekin was not in Moscow after being provisionally suspended due to irregularities in her biological passport.
(Reporting by Alison Wildey; Editing by Mark Meadows)
