The former world number one lost 6-3 6-3 in his first final for more than two years.
The Scot put together his best week since claiming his 46th career title in Antwerp in October 2019 but he found himself outmuscled by the blistering power of Karatsev.
The top seed thumped winners from all parts of the court and wrapped up a 6-3 6-3 victory for his third title on the ATP Tour.
Murray’s voice cracked as he gave his runners-up speech on court, thanking his team, including new coach Jan De Witt, and then addressing his family at home.
“I don’t know if you’re watching but I miss you all,” he said.
After composing himself he praised the vocal Sydney crowd, saying: “I’ve really missed playing in front of these sorts of crowds and these sorts of matches. Unfortunately the result didn’t go my way tonight but I’ll keep trying my best to come back and have more nights like this.”
Karatsev was one of the most surprising grand slam semi-finalists in history when he reached the last four in Melbourne 12 months ago as an unheralded qualifier.
But the 28-year-old, who had previously spent his whole career on the lower rungs of the tennis circuit, has proved since that he belongs at the sport’s top table, breaking into the top 20 and winning titles in Dubai and Moscow last year.
He defeated Dan Evans in the semi-finals in Sydney to prevent a first all-British ATP Tour final and broke the Murray serve in the first game.
The Scot paid for a low first-serve percentage in the opening set but Karatsev was superb, claiming half his points with winners and making only four unforced errors.
Murray was quickly behind in the second set as well and five missed break points in the fifth game proved to be his only chance to get back into the match.
Defeat means the 34-year-old must also wait to make it back into the top 100 but he can head to Melbourne with confidence for the Australian Open and a rematch with Nikoloz Basilashvili – who he beat in the second round this week – on Tuesday.
There was a doubles title in Adelaide for Britain’s Neal Skupski who claimed back-to-back pieces of silverware with new Dutch partner Wesley Koolhof.
The men’s singles title went to Australia’s Thanasi Kokkinakis who has been blighted by injuries in recent years and roared with delight as he claimed his first main tour title in his home city, beating Arthur Rinderknech of France 6-7 (6) 7-6 (5) 6-3.
“When I saw that final ball went long, I don’t think I’ve ever felt emotions like that,” said the 25-year-old. “You grow up playing, you never know if it’s ever going to happen.
“For me to do it at home, kind of in my comeback – I just started to play again. I hope this is just the beginning for me. If this is as good as it gets, I’m content as well.”
Madison Keys won her first silverware since 2019, thumping Alison Riske 6-1 6-2 in the women’s event, while Karatsev’s victory was preceded by an impressive 6-3 4-6 7-6 (4) win for Spain’s Paula Badosa over French Open champion Barbora Krejcikova.
Both will fancy their chances of success at the Australian Open.