I often wonder if they believe this or know they are lying and do so on purpose.
Much more subtle. Arabs, like Jews, believe that reality is created by speech. Jews will say “Chas Vechalila” (G-d forbid!) when they mention any bad thing that might happen, will say “bli ayin hara” (may no evil eye befall him) when praising a child. Arabs, on the other hand, will say the most outrageous lie, knowing that it is a lie, but with the intensity of sincere belief, and then will believe it is true, because the conviction with which it was said has made it so. Both Semitic offshoots believe that G-d created the world with speech, and that Mankind was created in His image, and that consequently a little of the power of the Creator rests in the mouth of a man.