As I understood from a presentation by Thomas Phinney, it is essentially producing a new glyph that averages the distances between points on two related glyphs--they need to have the same start point and number of nodes. The interpolation doesn't just have to be a 50/50 average, but can be 90/10 or whatever you want. You can also extrapolate.
There are two things most available for doing this, the MM technology in FontLab, and Superpolator, which has additional capacities.
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