1) Most customer's don't return stuff anywhere close to the rate you do (they usually get it right the first time. It's also a hassle to return stuff, even if it's free).
2) I can imagine with your atrocious rate ratio of returns, you'd be far more inclined to pay a few more dollars to make that experience better via Zappos then stinge out and deal with paying for the return shipping and poor customer service issues elsewhere. (i.e. if they raise their prices, who cares? Everyone knows Zappos was built on their excellent customer service and selection, not their prices)
(Note: I personally haven't used Zappos myself, but I've heard Tony talk about his customer service oriented culture in person and they sure seem to be doing just fine with it).