Apple rumor mill believes Apple may be working on a cheaper iPhone. The definition of cheaper prices is different for Apple – as you can see from their pricing for iPad mini. They most likely won’t price it lower than their previous gen iPod Touch.
The news report states Apple is considering using plastic over aluminum (or is it aluminium?)
The new model could resemble the regular iPhone, but come with a less-expensive body. Apple could employ a shell made of polycarbonate plastic, with many of the other parts remaining the same or being recycled from older iPhone models.
It is instinctive to think that cheaper components are necessitated by lower prices. After all, as Henry Ford wrote,
You first find the price and do everything to drive down costs
With Apple it is not the case given their success with high margin iPhone. If they indeed use cheaper components, especially cheaper body using plastic, it is definitely not about reducing cost to price it lower but about making it as unattractive as possible to the current segment that is happy to pay $550* price.
In fact they have no reason to change any of the internal components – after all these are not externally visible nor are they judged easily. They only need to change the one factor that can be seen, sets it apart from its higher priced brethren, affects buying decision and affects how the owner believes she is seen by others. It is like removing roof from third class train cars.
Even if they can only eke out a smaller profit, if they can create significant price barriers preventing people from trading down they will do it.