Goodness, I started my (offroad) riding career on one of those.
But you got lot of 'extras' I didn't - like mudguards, headlamp, muffler...
And even paint, half of it was in primer. A DIY sort of purchase.
So I can't help with the muffler question, but I think you are on the right track saying the end of the pipe isn't blanked off.
Have you tried it without all the wadding ?
I've heard that stainless steel wool is quite good for that purpose, since it doesn't rust and won't catch fire.
But haven't actually tried it yet...