If i remember correctly, Insanity was added to (partly) combat botting/AFKing to avoid stocks, and make crimes even harder to commit, like gaining madness levels for murdering someone, etc. At first i thought that it would hinder normal play, but ive been playing since it was introduced, ive only ever gained 1 madness level.
The trick is to make a bed, and sleep in it whenever you go afk for any period of time, sleeping in a bed will slowly remove insanity.
Here are 3 things that you can do to remove insanity/madness.
1.) Get a Teddybear (DONT BUY FROM PLAYERS, They can curse them and cause even more chaos) either craft it yourself or buy from the NPC Stall (White topped stalls spread throughout the town) and
sleep with it equipped in your hand, for a minimum of 8 hours uninterrupted, it will remove 1 madness level, AS WELL as slowly remove insanity.
2.) Slot some clothes with Affluence items, such as Sterling Geodes (obtained rarely from chipping away are boulders) and once you have 200+ Affluence, you can go into the Den in the town and puff the Hooka, which will remove 1 madness level, and has a chance to give you some inspiration.
Be careful though, smoking the Hooka to long will cause you to pass out, meaning you wont lose a madness level or gain inspiration.3.) Grow tobacco, smoking tobacco has a small chance of removing a madness level, you'll need to make a pipe to smoke it from. (Say no to tobacco kids, it has the opposite effect in real life.
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Its recommended to try the first 2 options instead of Tobacco, since Sleeping with a Teddybear and Puffing the Hooka are 100% guaranteed to remove 1 level of madness, and tobacco farming takes up valuable farm plots and resources.
Other than that, read the official Insanity thread here:
viewtopic.php?f=2&t=13907, you can find the full list of things that will give/remove insanity.
Hope this helps, good luck.