The 36-year-old Spanish second seed received treatment during his quarter-final against Taylor Fritz on Wednesday but pushed through the pain to win in five sets.
“I have tried a lot of times in my career to keep going but it is obvious the injury will get worse,” he said.
Kyrgios will play Novak Djokovic or Cameron Norrie in Sunday’s final.
Nadal confirmed he has a tear in his abdominal muscle which means he would not be able to be competitive over two matches.
The 22-time Grand Slam champion had practised at Wimbledon away from the media earlier on Thursday but then called a news conference.
“Throughout the whole day I have been thinking about the decision to make,” Nadal told reporters.
“I think it doesn’t make sense to play. I feel very sad to say that.”
Nadal had strapped on his abdomen during his fourth-round match but was in visible pain from the injury against Fritz.
He took a medical timeout during the match and ignored calls from his father and sister to quit before somehow rallying to win.
The two-time Wimbledon champion had been on course for a calendar Grand Slam, having won the Australian and French Opens already this year.
Nadal does not regret finishing Fritz’s match
Nadal has had a stunning year so far, despite playing much of it in pain from various injuries.
He began the year by rallying from two sets down to beat Daniil Medvedev and lift the Australian Open title.
He won his first 20 matches of the year before losing the Indian Wells final to Fritz, where he was hampered by a rib injury.
Nadal then won the French Open with no feeling in his left foot as it was anesthetised because of chronic pain.
He suffers from Mueller-Weiss syndrome – a rare degenerative condition that affects bones in the feet – and shortly after his Paris triumph he had a treatment that places heat on the nerves to numb pain.
Nadal said it was the right decision to finish his match against Fritz, adding he was not a person to have regrets over decisions he makes.
“I had this feeling in the abdomen for the past week,” he said. “It will be three or four weeks, which is normal for this kind of injury.
“I hope this will allow me to do my normal calendar, the calendar which I have in mind.”
The US Open, which begins on 29 August, is the next Grand Slam tournament.
Two-time Grand Slam winner Tracy Austin on BBC TV: “You can tell how sad he is – he loves to compete, he’s 36 years old and boy, has he had a tough year. After the foot injury at Roland Garros and the injections, it’s hard to believe he won a major with a numb foot.
“He comes here and most of us thought he would retire yesterday in the second or third set. The guy just wants to compete, the will, the effort. But he said ‘I need to have respect for myself, I don’t want to go out there if I can’t compete or serve well’.”
Former British number one John Lloyd on BBC TV: “When he said about not being able to play two matches he knows that even if by some miracle he had got through Nick Kyrgios there’s no way he can get through two matches.
“If he can’t play at 100% there’s no way he’s going to do it. You can see in his face how devastated he is – he’s got to get well, move on and get healthy and that’s the most important thing.”
An All England Club spokesperson: “We wish to offer our sympathies to Rafa Nadal on his withdrawal. We appreciate how hard he has worked to be fit to compete, and wish him well in his recovery.
“We now look forward to an exciting semi-final tomorrow and finals weekend ahead, and to seeing Rafa back at Wimbledon next year.”
