Mitchell Elias Daniels, Jr. was born on April 7, 1949 in Monongahela, Pennsylvania, the son of Dorothy Mae (née Wilkes) and Mitchell Elias Daniels, Sr., spending his early childhood years in Pennsylvania, Tennessee and Georgia. Daniels moved to Indiana from Pennsylvania in 1959 while still in grade school. His paternal grandparents were Syrian immigrants, and Daniels has been honored by the Arab-American Institute for his work in the community.

Upon graduating from North Central High School in Indianapolis in 1967, Daniels was named Indiana's Presidential Scholar – the state’s top male high school graduate that year – by President Lyndon Johnson. Daniels earned a bachelor's degree with honors from the Woodrow Wilson School of Public and International Affairs at Princeton University in 1971 and a Juris Doctor with honors from Georgetown University Law Center in 1979.

While a student at Princeton in 1970, he was arrested for possession of marijuana and spent two nights in jail. He has disclosed the arrest on job applications and in a 1989 Indianapolis Star column.

Daniels had his first experience in politics while still a teenager when, in 1968, he worked on the unsuccessful U.S. Senate campaign of William Ruckelshaus. While in college he interned in the office of then-Indianapolis Mayor Richard Lugar. In 1971, Daniels joined Lugar's re-election campaign, then joined the mayor's staff and within three years became Lugar's principal assistant. After Lugar was elected to the U.S. Senate, Daniels followed him to Washington, D.C., in 1977, as administrative assistant.

Daniels served as Lugar's chief of staff during his first term from 1977 to 1982. When Lugar was elected chairman of the National Republican Senatorial Committee, Daniels was appointed its executive director. He served in that position in 1983 and 1984, playing a major role in the successful effort to keep the GOP in control of the U.S. Senate. Daniels was also manager of three successful Senate campaigns for Lugar. Daniels was part of the Reagan Administration when he became chief political advisor and liaison to President Ronald Reagan in August 1985.

In 1987, Daniels returned to Indiana as chief executive of the Hudson Institute, restoring the organization to financial health. He then left Hudson in 1990 for the pharmaceutical company Eli Lilly and Company. From 1993 until 1997, Daniels was President of North American operations, and promoted to Senior Vice President for Corporate Strategy and Policy at Eli Lilly in 1997 where he served until leaving the company in 2001.

In January 2001, upon his appointment as Director of federal Office of Management and Budget (see below), Daniels resigned as a member of the board of Indianapolis Power & Light Co. and sold the $1.45 million he held in company stock, donating the proceeds to charity. Later that year, Indianapolis Power & Light Co. was bought by Virginia-based AES Corp. After the stocks dropped, the Indiana Securities Division investigated the sale and found no wrongdoing. A state investigation also found no wrongdoing.

In January 2001, Daniels accepted President George W. Bush's invitation to serve as director of the Office of Management and Budget (OMB). He served as Director from January 2001 through June 2003. In this role he was also a member of the National Security Council and the Homeland Security Council.

During his time as the director of the OMB, President Bush referred to him as "the Blade," for his noted acumen at budget cutting. Daniels instituted a first-of-its-kind accountability system for all governmental entities. Daniels came under fire for overseeing the decline of a $236 billion annual surplus to a $400 billion deficit during his 29-month tenure. Supporters argued that Daniels was one of few within the administration advocating fiscal restraint, the 2001 recession contributed to falling tax revenues, and that ultimately he had to follow orders.

In 2002, Daniels helped discredit a report by Assistant to the President on Economic Policy Lawrence B. Lindsey estimating the cost of Operation Iraqi Freedom at between $100–$200 billion. Daniels called this estimate "too high" and stated that the costs would be between $50–$60 billion. In March, as Congress considered H.R. 1559, “Emergency Wartime Supplemental Appropriations Act, 2003,” OMB was ordered to prepare an estimate for the defeat of the Iraqi Army and a six-month aftermath ending with the 2003 fiscal year on September 30. Daniels’ estimate referred only to this period.