One much consider profit margins for Apple. iPod touch still costs around $120 or so to manufacture. Obviously apple margin grows if people opt for the 64Gb version of the touch.
But the low end of the iPod touch means very little profit margin to Apple. iPhone's manufacturing costs may be $170-200 because of the extra radios inside but Apple sells for $600 or so in bulk to carriers.
As more consumers get iPhones that means less need for iPod touch and many parents take out sim and let their kids use old iPhones essentially as thicker iPod touches.
The iPod lines including the touch now account for less than 7% of Apple's revenues. iPad and iPhone account for 60-70% of revenues. That's where apple is focusing.
Good Analysis, It seems like this factor is working somewhere.