The so-called “Zigeunersauce” (German for gypsy sauce) will soon be sold as “Hungarian-style paprika sauce”, Knorr's parent company Unilever said in a statement.
“We work hard to free advertising from stereotypes and discrimination of any kind,” Unilever said.
“Since the term 'gypsy sauce' can be interpreted negatively, we have decided to give our Knorr sauce a new name.”
The move comes as companies face closer scrutiny over the use of racist imagery to sell their products, triggered by the widespread anti-discrimination protests that followed the killing of a black man, George Floyd, at the hands of a white police officer in the United States in May.
In the US, PepsiCo announced it would end its Aunt Jemima line of pancake syrup and batter adorned with the face of a black woman, while Mars plans to “evolve” the Uncle Ben's rice brand that uses a black man as its logo.
German anti-discrimination campaigners have for years urged Knorr to ditch the “gypsy” term from its sauce, but their pleas had fallen on deaf ears until now.
The mildly spicy sauce is usually made with pureed tomatoes, bell peppers, onions and paprika and is often served on top of a schnitzel in German restaurants.
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The Central Council of German Sinti and Roma welcomed the name change.
“It's good that Knorr is responding to the complaints of many people,” its head Romani Rose told the Bild newspaper.
But he said he was far more worried about rising anti-Roma sentiment in Germany and Europe, pointing to the use of the word “gypsy” as a slur in football matches.
Some 11 million Roma live in Europe, making them the continent's biggest ethnic minority.
But they suffer from disproportionate poverty and rampant discrimination.
Historians estimate that around half a million Roma and Sinti people were killed by the Nazis during the Holocaust.