You know, I didn't remember the story very well so I checked wikipedia. Here's what it says about the (start of) the plot:
>> Two swindlers arrive at the capital city of an emperor who spends lavishly on clothing at the expense of state matters. Posing as weavers, they offer to supply him with magnificent clothes that are invisible to those who are stupid or incompetent. The emperor hires them, and they set up looms and go to work. A succession of officials, and then the emperor himself, visit them to check their progress. Each sees that the looms are empty but pretends otherwise to avoid being thought a fool.
So everyone "pretends otherwise to avoid being thought a fool".
>> Two swindlers arrive at the capital city of an emperor who spends lavishly on clothing at the expense of state matters. Posing as weavers, they offer to supply him with magnificent clothes that are invisible to those who are stupid or incompetent. The emperor hires them, and they set up looms and go to work. A succession of officials, and then the emperor himself, visit them to check their progress. Each sees that the looms are empty but pretends otherwise to avoid being thought a fool.
So everyone "pretends otherwise to avoid being thought a fool".
Huh. I guess that explains it. Good metaphor.