We started with the same project my son and his Waldorf Kindergarten class did -- a felt "dream pillow" embroidered on the outside and filled with rice and lavender (inside a muslin bag made by me). We use two small squares of felt, tapestry needles (which are pretty dull), and embroidery floss.
The seven year old has come a long way since his first sewing project in Kindergarten. He settled right in, stitching out a nice T-Rex head on one side and his initials on the other. The four year old went quickly from huge stitches to much smaller more controlled ones. I was quite pleased to see how much they were enjoying it all.
As they stitched and I watched and helped out as necessary -- unraveling threads, tying knots, or teaching new stitches -- I pulled out the iPod and we sat around it, sewing, drinking tea and listening to Alice in Wonderland. It was a modern take on a long ago, cozy domestic scene.