Lunatic in US embracing one extreme of confabulation: animals that don't exist (8)
I believe the answer is:
unicorns
'animals that don't exist' is the definition.
(imaginary animals)
'lunatic in us embracing one extreme of confabulation' is the wordplay.
'lunatic' indicates an anagram.
'embracing' means one lot of letters goes inside another.
'one extreme of confabulation' becomes 'corn' (I am not sure about this - if you are sure you should give a lot more credence to this answer).
'in'+'us'='inus'
'inus' anagrammed gives 'unis'.
'unis' going around 'corn' is 'UNICORNS'.
(Other definitions for unicorns that I've seen before include "Imaginary one-horned animals" , "Imaginary horned creatures" , "Mythical horses with horns on foreheads" , "Coins run off these imaginary creatures" , "Imaginary one-horned creatures 98)" .)