WARNING: this answer may contain spoilers!
The author has actually explained this himself
on his blog:
I got a lot of grief from trusted advisers over the title of WOOL, back when it was just a single novelette and no one had read it. My science fiction professor and friend Adam Griffey told me it was a dumb title. As did a good friend of mine in my writing group in Boone. But my thinking was twofold: The first reason I went with this title was that it held a hidden meaning that gave away the twist at the end of the story (the wool being pulled over Holston’s eyes), but this hint is so subtle and can be interpreted in so many ways that you can tell people this meaning and they still won’t guess the final scene. It was an artistic choice (if writers are allowed to consider themselves artists) that made me enjoy publishing the work just a little more. The second reason I went with the title of WOOL was that I felt it would pop in a sea of traditional SFF titles (my other works included). It was simple and short. It was a common word amid a sea of uncommon and made-up words. And it’s fun to say!
-- Hugh Howey (emphasis mine)
Less canonically, one Amazon reviewer has commented that:
I love the title, which takes on more than one meaning as the layers of the story are uncovered. I loved the gradual reveal of the truth of the lives the characters are living and the way I can picture the silo and the long, long walk from one end to the other.
The main reason for the title appears to relate to the characters having the wool pulled over their eyes, which is gradually removed as the story goes on.