The city originated around 1195 and takes its name from the castle situated on a mountain spur above the Rur River. It is mentioned for the first time in 1198 as Mons Ioci and then in 1217 as Munioie and as Monjoje in 1226. The name is a typical castle name from the setting of the Crusades. Walram of Limburg-Monschau, the first lord of the castle and subsequently the Duke of Castle Lim, is known as a crusader in the Holy Land in 1197.  
Monjoye dominated the written form during the Late Middle Ages and in the Early Modern Times. Around 1800, the Montjoie form arose during the French rule in the Rhineland. By official decree, the name was “Germanized” into Monschau in autumn of 1918 as the result of the lost First World War and the ensuing Francophobia.
A formal bestowal of authorisation as a town does not exist, but there have been multiple confirmations of the customary rights as a town since 1476.  
The town of Monschau had gained its municipal structure of today through the integration of the independent municipalities, Höfen, Imgenbroich, Kalterherberg, Konzen, Mützenich und Rohren   on January 1, 1972.

The Monschau Castle's location of today was established at the end of the 12th century by the Dukes of Limburg. It is the third castle complex following its predecessors in Reichenstein (today, a cloister on the Rur between Mützenich and Kalterherberg) and in Monschau (the Haller Ruin situated above the confluence of the Laufenbach and the Rur).
After the takeover of the Limburger Duchy by Heinrich IV in 1226, the lords of Monschau were established from the Limburger branch up to 1266. A united Monschau-Valkenburg territorial lordship followed from 1269-70 up to the extinction of the male line in 1352. In the subsequent Valkenburger succession dispute, the lords of Schönau-Schönforst as well as the Margrave of Jülich, among others, acquired the rights to the rule Monschau, which had finally fell to the Duchy of Jülich as a commission in 1435. French revolutionary troops entered Monschau in 1794. After the recapture of the areas on the left side of the Rhine River and in accordance with the decisions of the Vienna Convention, Monschau went to Prussia in 1816. In 1856, a Prussian town order was granted to the Rhine province.
The castle had been continuously developed up to the 17th century. Under the Monschau-Valkenburger reign, it had undergone an extensive enlargement including an outer ward with a spacious chapel. This further included an encircling wall with three gates for the settlement that had additionally originated on the eastern foot of the castle mountain in the meantime.
The municipal development proceeded hesitantly. A tax granted in 1489 served for the maintenance of the fortification. During the Guelderian Wars, Monschau was conquered by imperial troops in 1543. The castle was severely damaged and the town was completely destroyed from the tower house to the rear gate. Only in the course of the rebuilding did the development extend northward past the town walls to the Laufenbach and its confluence with the Rur downstream. Initially Brandenburg-occupied in the Jülich succession dispute of 1609, the Pfalz-Neuburger competitor, Wolfgang-Wilhelm, captured the city and castle with the help of the Spaniards in 1622 in order to ultimately assume dominion. With this, the rise to more town-like qualities began, particularly since the town and its surroundings remained largely spared from the destruction and plundering of the Thirty Years' War and the subsequent wars. Among other things, there are indications of this from the introduction of town accounting, the opening of an elementary school and the construction of a city hall in 1654 as well as the construction of an independent church of its own when the parish separated from the then existing Konzen parish in 1639 (consecration in 1650).
As the result of a quick takeover in September,1944 by the American military during the Second World War, Monschau remained largely undestroyed in comparison to the towns in the surrounding regions that, to some extent, were fiercely embattled.

The location far-removed from thoroughfares and the chaos of war allowed for a widely undisturbed development of an infrastructure for high-quality woollen cloth production in the 17th century. Contrary to a much-repeated depiction, these were not Aachen religious refugees, but rather local families (Schmitz in Monschau, Offermann in Imgenbroich) that had expedited the new trade. Spanish merino wool was already being processed in the first decades of the 18th century. Nevertheless, the location had to struggle with serious problems in selling its wool as the result of the lacking on-site marketplace and the privileges of the older production sites in the Duchy of Jülich.
The breakthrough to a European-wide prestige for the fine cloth production had succeeded through the fact that Johann Heinrich Scheibler (1705-65) overcame the territorial impediments of the house-to-house peddling through his entrance into the wholesale trading sites as a leading enterpriser and turned the Monschau cloth into branded goods. The heyday of this fine cloth production was in the second half of the 18th century. This era of cloth manufacture is marked by the fact that it gradually progressed from the initially practised workshop system into a concentration of all working stages in a factory building. The structural fabric of the city centre from the time of the cloth makers in the 17th and 18th centuries has been fundamentally preserved and includes the splendid town houses such as the “Red House” and the “Haus Troistorff” that were also manufacturing facilities at the same time as well as the larger production sites in the old town centre.
The invasion of French revolutionary troops in 1794 had initially brought about a deep slump as the result of confiscations and the loss of old sales markets, but the modernisation and mechanisation by the surviving operations had accelerated from around 1800 onward. The successful consolidation was grievously disturbed by the subsequent connection with Prussia. Despite the occasional upturns in the 19th century, the cloth manufacturing was no longer able to return to the success of the 18th century.  Enterprisers migrated to East Europe (Lodz, Brünn) or turned to other textile sectors (spinning mills, synthetic wool fabrics and synthetic silks, among others).
From the middle of the 19th century, the location of Monschau lost its connection with industrial development. The opening of the Vennbahn of Aachen (1885) could not stop the trend. The population figures continually decreased in the 19th century; from 3020 inhabitants in 1816 to 1865 in 1905. The last cloth factory closed in 1908 and the remaining textile trade ground to a halt in the 1960s.