Defining papanca

Basically, papanca is the story-making habit of the mind, the process of making complex (part of abstract categories) that which is simple (basic sensory phenomena).

Here's Thanissaro Bhikkhu's note on the meaning of papanca:

Translating papañca: As one writer has noted, the word papañca has had a wide variety of meanings in Indian thought, with only one constant: in Buddhist philosophical discourse it carries negative connotations, usually of falsification and distortion. The word itself is derived from a root that means diffuseness, spreading, proliferating. The Pali Commentaries define papañca as covering three types of thought: craving, conceit, and views. They also note that it functions to slow the mind down in its escape from samsara. And, as our analysis has shown, it functions to create baneful distinctions and unnecessary issues. For these reasons, I have chosen to render the word as "complication," although some of the following alternatives might be acceptable as well: self-reflexive thinking, reification, proliferation, exaggeration, elaboration, distortion.