Essentially, it coats fabric in oil. This makes it feel slippery, which most people interpret as “soft”.
Your dryer sheets contain wax or fats, which melt in the heat of the dryer, and the tumbling motion coats everything pretty evenly.
Fabric softener reduces static because lipids (oils) are slightly conductive. The entire surface of the fabric then becomes slightly conductive, which dissipates the static charge.
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