You know that the school doesn't exist, that she will never go there, and that you would never pack her off there or give her away because she is unruly.
She doesn't.
Plus, what happens when it's time to actually start school and she's terrified because she thinks schools are like the one you've described? Children are very literal, and she will take what you say about school very seriously.
There has to be a better way of dealing with this than frightening her. You said yourself that you feel guilty for scaring her into behaving and you feel awful for doing this to her - so it's not an ideal form of punishment.
You say that you've tried punishments for her behaviour, but have you tried doing anything which rewards positive behaviour? Most people respond better to the carrot than the stick. As Dimpled says, maybe something like sticker charts or the pasta jar as a reward system for good behaviour would work better for her.
Can I add that my mother used to discipline through fear - her way of keeping me behaving well was to frighten me into behaving well. But it wasn't her stories that I was frightened of in the end - it was her. I'm sure that's not what she intended, but that's how it ended up, and I would hate for that to happen to you.