Try thinking "iPhone Nano": it's a phone, and not much else.
Those who have tablets still need phones, but don't need a full duplication of capability plus a full data plan. I carry an iPad everywhere; carrying two (one crammed into a 4" screen space, otherwise equal capability) is overkill but I still need the phone.
Some people need "just a phone", but the available dumbphones are just downright
stupid (inch thick, insane menu layout, overall obnoxious); would that

apply their design principles to that large market.
The iPod Nano's value is being a music player and not much else. The

design philosophy makes it a joy to use, and a nice extension of the ecosystem. It does a core task, includes maybe a few simple "apps" (radio, photos, pedometer), interfaces nicely with the iTunes world, and otherwise doesn't burden you with any more bulk or cost.
An iPhone Nano would have similar value, being "just a phone" that fits well into the

ecosystem. And we'd be able to get phones back to being phones, and being small enough to fit comfortably in a pocket.