My father's visual reaction is frequently unbelievably questionable! Is this due to vision deterioration or a symptom of his Dementia?

The hallucinations are real to them, and even though you can "prove" that the pillow is just a pillow and not a rat (just an example) you can't convince them to disbelieve their own senses. I had a relative who suffered delusions that his wife was sleeping around on him, in his more rational moments he said he knew it wasn't true, but he believed it. It seems to us that it is impossible to hold two contradictory opinions at the same time, but because the brain is broken, they can. One of the most important things we all need to understand is You Can't Argue With Dementia! Logic is out, insisting they are wrong, even if you can prove it, will get you nowhere and will cause them to become increasingly angry, anxious and distrustful. Work with the doctor to treat the hallucinations - find a new med if this one isn't working, or add in another. And read read read everything you can about dementia.