Dahlgren was established on March 29, 1872 by Deed of Dedication. On that date Alexander M. Sturman formally conveyed to the new town one square mile (2.6 km²) of land that had been platted the previous autumn. Its founding coincided with the construction of the Saint Louis & Southeastern Railway when most of the residents of the hamlet of Lovilla relocated en masse to the new rail line from a stage route (the so-called "New Mt. Vernon Road") that ran a few miles to the southeast of present-day Dahlgren and had itself supplanted the older Goshen Road from near McLeansboro. The first post office had been established earlier on December 11, 1871 with the arrival of the first trains. George T. McGonagle was the first postmaster.
Dahlgren was named for Rear Admiral John A. B. Dahlgren, a prominent Union officer during the American Civil War, and shareholder in the Louisville and Nashville Railroad, which later acquired the St. Louis & Southeastern.
The area around Dahlgren was initially settled by immigrant farmers from Europe, especially southern Germany, England and Wales, representing both Catholic and Protestant faiths. It reached its peak population around 1910, at that time supporting numerous local businesses, a hotel and an opera house.
Dahlgren suffered general economic migration and decline coincindent with the economic depression of the 1930s. As roads were improved and automobiles became more widely used the primacy of local businesses waned as residents were able to begin trading in larger towns located farther away.
The decline continued until the early 1970s culminating with the end of passenger rail service effective May 1, 1971 and the closing of the local high school two years later. Even the arrival of the interstate highway system in the mid-1970s did not spur economic growth as the village board at the time elected to refuse local access to the highway. Since that time, despite the closing of all but a handful of local businesses, the economic situation has stabilized and improved. The remaining local niche retailers have established strong trade and new manufacturing interests have expanded. Residential real estate is becoming highly desirable owing to its relative scarcity and Dahlgren's reputation for excellent "quality of life."
Much of the brick-facade business district has fallen into ruin, yet the historic original St. L. & S.E. Railroad Depot, now owned by the village, remains in excellent condition, a superb example of "Railroad Gingerbread" style.