Fungibility

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Fungibility is the property of a good or a commodity whose individual units are capable of mutual substitution, such as crude oil, shares in a company, bonds, precious metals, currencies, or food.

A good or asset's interchangeability with other individual goods/assets of the same type. Assets possessing this property simplify the exchange/trade process, as interchangeability assumes that everyone values all goods of that class as the same.

Many diverse types of assets are considered to be fungible. For example, specific grades of commodities, such as silver bullion, are fungible because it does not matter where the silver was mined - all silver designated as bullion is worth the same value as to the spot price on the open market.

It refers only to the equivalence of each unit of a commodity with other units of the same commodity. Fungibility does not describe or relate to any exchange of one commodity for some other, different commodity.

As an example: if Alice lends Bob a $10 bill, she does not care if she is repaid with the same $10 bill, two $5 bills, a $5 bill and five $1 bills or a bunch of coins that total $10 because currency is fungible (noting that, in practice, some denominations might incur additional operational or processing costs). However, if Bob borrows Alice's car she will most likely be upset if Bob returns a different vehicle—even a vehicle that is the same make and model—as automobiles are not fungible with respect to ownership. However, gasoline is fungible and though Alice may have a preference for a particular brand and grade of gasoline, her primary concern may be that the level of fuel be the same (or more) as it was when she lent the vehicle to Bob.

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Etymology

The word comes from Latin fungibilis from fungi, meaning "to perform", related to "function" and "defunct".

Fungibility versus liquidity

Fungibility is different from liquidity. A good is liquid if it can be easily exchanged for money or another different good. A good is fungible if one unit of the good is substantially equivalent to another unit of the same good of the same quality at the same time and place.

Examples:

  • Cash is fungible: one US$10 bank note is interchangeable with another. It is also interchangeable with two $5s, ten $1s, and other combinations.
  • Different issues of a government bond (maybe issued at different times) are fungible with one another if they carry precisely the same rights and any of them is equally acceptable in settlement of a trade.
  • Diamonds are not perfectly fungible because diamonds' varying cuts, colors, grades, and sizes make it difficult to find many diamonds with the same cut, color, grade, and size.
  • Packaged products on a retail shelf are fungible if they are of the same type. Customers and clerks can interchange packages freely until purchase, and sometimes afterward. When the customer opens the package and uses the product, however, it is usually considered unique and no longer interchangeable with unopened packages unless there is some customer service issue, such as a return or exchange. Even then, the customer might consider a swap with a trusted friend who also buys the same product.

Fungibility does not imply liquidity, and liquidity does not imply fungibility. Diamonds can be readily bought and sold (the trade is liquid) but individual diamonds, being unique, are not interchangeable (diamonds are not fungible). Indian rupee bank notes are mutually interchangeable in London (they are fungible there) but they are not easily traded there (they cannot be spent in London). In contrast to diamonds, gold coins of the same grade and weight are fungible, as well as liquid.

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