Just in case anyone happens across this thread, even if they aren't using an Exchange account...
I have had an empty Flagged folder in Mail for quite a few months now. The only active accounts are a personal one (IMAP) and iCloud. My Google account is disabled.
I'd isolated the flagging issue, showing 8 flagged messages when there are none, to my personal IMAP account. Logging into the webmail account and going through each folder and conducting searches revealed that there were no flagged messages as far as the server was concerned. Definitely a local issue. Also, iOS devices showed no flagged messages either.
I tried editing the plist for flagged messages, but it would revert back to 8 after relaunching Mail.
I was trying a few more things today when I chose Rebuild under the Mailbox menu item and...it cleared! And it has stayed clear after closing and reopening Mail.
Not sure if I'd tried that before (or even noticed the option), but it looks to be resolved now. So even if you're not using an Exchange account (which, at one time, I was in addition to the others), this may solve the main issue of displaying Flagged email when there is none.
Hope this helps.
Trevor