Google, which owns the video-sharing phenomenon YouTube, immediately hailed the decision as a "clear victory for the Internet."
Spanish private television channel Telecinco had accused YouTube of violating its intellectual property rights by broadcasting images that belonged to it.
The court had backed Telecinco in a provisional ruling in 2008, ordering YouTube to suspend the broadcast of Telecinco videos. But it ruled against the Spanish channel in its final decision, reached on Monday and made public on Thursday.
Telecinco believed that "the broadcast on the (YouTube) Internet site of various audiovisual recordings ... was a violation of the intellectual property rights of Telecinco," the Madrid court said.
But it is "physically impossible to control all the videos that are made available to users, as there are in fact more than 500 million.
"YouTube is not a supplier of content and therefore has no obligation to control ex-ante the illegality" of what is on its site, said the ruling, issued in Spanish.
"Its only obligation is to cooperate with the holders of the rights in order to immediately withdraw the content once the infraction is identified."
Google said the decision is "a clear victory for the Internet and the rules that govern it.
"This decision reaffirms European law which recognises that content owners (not service providers like YouTube) are in the best position to know whether a specific work is authorised to be on an Internet hosting service," Google said in a statement.
"If Internet sites had to screen all videos, photos and text before allowing them on a website, many popular sites -- not just YouTube, but Facebook, Twitter, MySpace and others -- would grind to a halt."
It said YouTube provided a free tool known as Content ID "designed to prevent copyright abuses and give owners control over their content" which is used by more than 1,000 media companies.
Telecinco, controlled by Italian broadcaster Mediaset which is owned by Italian Prime Minister Silvio Berlusconi, said YouTube was hurting Telecinco by airing episodes of its television shows before the channel broadcast them in Spain.
There was no immediate reaction from Telecinco to the latest decision.
In June, a US judge also threw out a copyright lawsuit filed against YouTube by US entertainment giant Viacom, which sued Google and YouTube for a billion dollars in March 2007, alleging it used pirated video clips to boost its popularity.
YouTube was a year-old Internet sensation when Google bought it in a 1.65-billion-dollar stock deal in 2006.
