I read the quote in question as a psychological maxim, true on many levels. Our brains look for meaning, context, continuity, and personal validation in events around us. And we constantly write the stories of our own lives. And yes, we lie, and we believe our lies.

Vonnegut said, Live by the foma (harmless untruths) that make you brave and kind and healthy and happy.

We are hardwired for story. That's what I suspect she means. But what makes that one of her many wise and quotable lines so popular is probably how many interpretations it appears to support.