Children learn by doing and imagining. When they pretend they are a police officer or parent, they have the freedom to explore at their own pace a world they are learning to navigate. They hold the power. They can express their emotions, punishing their pretend children as they've been punished. They learn to negotiate and solve problems (how to stop the bad guy or what to cook for dinner). They learn to walk in others' shoes, helping to develop empathy.
Creating stories about pretend characters encourages language development and abstract thinking. In addition, being able to see that a belt could be a lasso or a block could be an iPod is a precursor to realizing that those symbols on the page are actually letters and words.
To encourage imaginary play, have a stash of props handy for your children to explore boxes, clothes, shoes, household utensils, blocks, stuffed animals, and writing materials. Then step back and have fun watching what the props become.