A commodity is a product that is fungible; any supplier's product is interchangeable with any other's and buyers do not care who they buy from.
Commodities are most commonly products whose properties can be precisely described and measured, and whose production does not involve anything that allows it to be differentiated.
The interchangeability of commodities means that they can be traded on exchanges in a similar manner to financial securities. This also means that financial products based on commodity prices can be created, most importantly futures and options.
A product being a commodity is necessary for perfect competition to exist, which is important as it is this type of competition which guarantees (this can be mathematically prove starting from some reasonable assumptions) economic efficiency.
Important commodities include:
- crude oil
- certain agricultural products.
Futures markets exist for a wide range of commodities (oil, copper, orange juice, pork bellies etc.) and are used by suppliers (to hedge against price falls), buyers (to hedge against price rises) and speculators.
Non-perishable commodities such as metals are called hard commodities. Perishable commodities such as agricultural commodities are called soft commodities.
Products that are not commodities can gradually lose their differentiation and become more commoditised.