Waldo and I conducted several tests on different types of ammo, here are our findings and suggestions.

Ammo Pros Cons
Grass FREE, fun to launch, easy to load catches wind easily, slow, not very accurate
Dirt Clod FREE, pretty accurate, easy to obtain and load messy
Potato Possibly the best ammo, makes a great seal, flies far and fast, pretty cheap, lots of fun none that we found
Apple Best produce next to potato, cheap a little less fun than a potato
Bannana A little fun to launch too messy, too soft, hard to load, messily explodes upon launch
Pine Cone FREE, easy to load, inconspicuous, good fun can be hard to find pine cones that make a good seal
Toilet Paper Like shooting blanks, explodes on launch, cheap makes a bit of a mess
Nerf Balls/Rubber Practice Golf Balls Perfect fit for the 1-1/2" barrel, reusable (if you can retrieve them...) Nerf is expensive (practice golf balls are a cheaper alternative)

If you find something you want to launch but doesn't make a great seal, try making a sabot. Losely wrapping a projectile in toilet paper works, or you can stuff a wad of TP in the barrel and then drop a projectile on top of it. If you're more ambitious you can fashion a sabot out of foam or something similar as seen on the chicken gun episode of MythBusters.