I’m not buying it.
Not because Steve said so, but because Apple’s not in the low margin business. A 7,85″ iPad would have to be around the 299 USD price point because the “old” iPad 2 is starting at 399 USD now, and considering this, I’d say they wouldn’t make enough money on it. Apple’s about maximizing synergies, and keeping the iPad 2 around does that for them. The BOM (bill of materials) for a 7,85″ iPad would simply be too high if they want to keep the quality they’re building their reputation on.
I may be wrong – time will tell.