SPOILER************************















He was crazy to begin with but that was the first time they did that extreme of treatment which was the extensive roleplaying. He wasn't imagining everything throughout the movie other than those creepy flashbacks. His doctor played the role of his partner, and the staff and everyone else played minor roles in the roleplaying. He did have hallucinations though like the escaped doctor that lived on the cliff. The treatment did in fact work but at the end, he pretended to revert back to his crazy old self because he couldn't live with the fact that he had killed his wife and indirectly responsible for the death of his kids. That's why he told his doctor that it was better to die as a good man than live as a monster. Because he no longer lived in his little crazy perfect world where he wasn't responsible for his wife's death he wasn't able to cope with the fact that he was the one who killed his wife.