Console piracy is nowhere near as bad as PC game piracy, and yet, as you say, the PC game market has some pretty impressive sales. Even so, the prices do drop on console - very rarely do you see a $70 game keep that price, they generally settle to the $15-$25 mark over the course of a year (with a few exceptions). $5 barely breaks even the manufacturing costs so it's no surprise they don't want to sell at that rate. In any case, $15-25 is affordable pocket-money territory for kids.
The problem here is immediacy. Even with savage price drops, games are notoriously short-tailed. Gamers want them as soon as they come out, not a moment later. BEFORE they come out if possible - leaks are massively popular. Gamers will see the $70 price at launch, find they can't/won't pay that, then turn to bittorrent. They won't wait until it becomes affordable.
I suspect the brakes are off on Wii piracy at least. I've no idea how it's done, but I've seen a Wii hooked up to a network or hard drive that had every published Wii game on it.
Personally, I'd rather not break the law, I have about 15 games on my Wii, and one or two get played a few times a year, so my itch to play Super Mario occasionally, gets scratched just fine.
Game publishers could follow the example of books. They used to price discriminate based on time, with ebooks they had to rethink their strategy. $15-$35 for downloadable-only, $50-$70 for downloadable + physical games, maybe even higher for collector editions, would probably work well.
I'm not sure. Games publishers have been at this for many years yet, they've experimented with price points, different forms of DRM and various online strategies.
I don't think there's any real evidence that cutting price affects price in any major way. Entertainment products are fairly price-inelastic* and collectors' editions are almost Veblen goods.
*Although they obviously respond well to sales and temporary price drops, permanent price cuts don't seem to help much.
The problem here is immediacy. Even with savage price drops, games are notoriously short-tailed. Gamers want them as soon as they come out, not a moment later. BEFORE they come out if possible - leaks are massively popular. Gamers will see the $70 price at launch, find they can't/won't pay that, then turn to bittorrent. They won't wait until it becomes affordable.