I think there's room for both - some people want a bigger car, and are willing to scrimp on options to keep the cost down. Others want a small car, and have a higher budget for options.I expect the smaller battery S will disappear to make room for fully optioned 3.
It is there so tesla can quote lower base price.
You can pay more for a loaded BMW 3 a base 5 series. Same idea. I suspect the base S will stick around as long as it keeps selling.