Cutting the price of the arcade to close to that of the PS2 and handhelds would also raise "too many questions" in the consumer's mind at retail. Price is far from everything, even if it is a major player in consumer purchasing (esp. around the Holidays).
A manufacturer pricecut below $199 going to happen for the X360 Arcade in 2009, go ahead and quote me -- I won't be the one eating crow. MS has said it over and over and over again, and there's not a single good reason to do so, really, that wouldn't cost them far too much income.
Even if the 80GB PS3 drops to $299, MS will do fine with the arcade at $199. The Pro will likely have to drop some, to compete, though -- the 80GB PS3 is worth a fair bit more than the 360 Pro, from any perspective except a blind 360 fanboy's.
All Sony really needs to do, to step up the competition in the short term, is put, on the box (in bold letters) "NO ONLINE SUBSCRIPTION FEES, unlike some competing products". Tada. Buyer perceived value of the XBox goes down, and the PS3 goes up... by a lot. This same sort of disruption changed the entire credit card industry, ATMs, etc. eons ago.
