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Simply put, it's the fact that the cost of the display is a major proportion, even majority of the cost of the whole device, so a larger screen area would increase the device cost significantly.
As for the reading experience, for normal leisure reading it's not a problem - for graphics, etc, yes, bigger would be better, but compare the price of the Illiad to the Sony/Cybook - it's not the touchpad that's the real cost incrementer there.
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