Here in India, I can pirate any movie for free and for 2.0$ if I want to buy a DVD. Its not stopped our film industry from producing new and high quality material.
Counter anecdote to your anecdote.
EDIT: Actually theres a small phenomena going on that I've recently noticed in the Indian cinema/piracy scene which is worth letting other people know.
Quick background first: Bhojpuri Cinema - http://en.wikipedia.org/wiki/Bhojpuri_cinema
Bhojpuri is a dialect of Hindi, spoken mostly in the north easter states of India. Bhojpuri cinema was a relatively dead creature, with a small audience and it paled in financial/audience significance compared to your typical bollywood fare.
Now a lot of labor such as security guards, house help, cooks, are immigrants from those states, and of course they speak bhojpuri. They've had to watch hindi cinema when outside of their states though; the opportunity cost of putting up a bhojpuri movie, instead of a bollywood flop, is too high. The choices of bhojpuri speakers were basically Hindi movies or, Hindi movies.
Of late though, cheap color mobile phones, about Rs.1,500 to Rs.3,000 ($25 - $50), coupled with rampant piracy, are allowing that gap to be bridged.
Often when I come in late at night, I can catch security watching a movie on a cheap phone.
I wish I had numbers to know how much is being consumed (how much bhojpuri vs regular hindi cinema for example), but I do know that bhojpuri cinema is going to be able to keep and build a stronger network of viewers. The viewers themselves are able to identify and patronize the art form, something which wouldn't have happened otherwise.
TLDR: Piracy and cheap mobile phones are letting niche hindi dialect speakers consume and watch movies which would have been drowned out against bollywood. Considering the size of the populations, its interesting to see how this plays out.