Well first of all you are comparing iPhone, which is a phone, to Android, which is an OS. But for argument's sake, I'll assume you mean a phone running Android.
Android is open source, iOS is not open source. That means all the bugs, improvements, etc.. to iOS has to be done strictly by Apple SWE. This makes catching bugs/fixing them, coming up with improvements, more expensive that if you had a giant community of users having a look at the source code and modifying it; sooner or later a couple of people are bound to improve it.
Also iOS is currently the most secure mobile OS, quality software like that costs a lot of money.
iPhone hardware is much more refined that any Android phone (lately the Samsung Galaxy has matched it, and that's why the galaxy's price has increased).
R&D costs money. A lot of it as a matter of fact.
Apple charges a premium on its products for multiple reasons. Apple believe that its products are the best products on the market. If you are not convinced of this, check out some benchmarks which show you that the iPhone, with less hardware grunt that other manufacturers (lower CPU clock speed, less ram, etc...) matches or outperforms those other forms.
The iPhone is targeted at a different customer that what other, non-flagship Android phones are.
All these points affect the pricing of iPhone.
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