So our 3 year old son is both talkative and imaginative, but hasn't necessarily learned all the social decorum that comes with age/experience and social development. There's been a number of embarrassing situations/social faux-pas that we've just about explained away, but sometimes it is pretty difficult.
As an example, we were in the photo printing shop waiting for our prints and my son exclaimed "Look daddy, a witch!". As I looked around he was pointing straight at a bedraggled-looking middle-aged lady whose hair was unkempt but was probably just having a 'bad hair day'. I calmly walked him around to the opposite side of the shop, crouched down to his level and said "I can't see a witch, but there's a picture of a dragon on the wall". He protested "no daddy, over there, with the green boots" (luckily out of earshot). I asked him "does she have a Broomstick, a Cauldron, and a Cat?", to which he replied 'No' and accepted she couldn't be a witch, then.
On this occasion, some quick thinking diffused any further awkwardness or upset.
Are there any techniques that you use to handle these types of situations?
..and have you got a fun story to illustrate your technique? :-)