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Yosarian2 comments on Weak repugnant conclusion need not be so repugnant given fixed resources - Less Wrong Discussion
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Frankly, if the only flaw in that moral theory is that it comes to a weird answer in a world that is already a universally horrible hellscape for all sentient beings, then I don't see that as a huge problem in it.
In any case, I'm not sure that's the wrong answer anyway. If every generation is able to improve the lives of the next generation, and keep moving the average utility in a positive direction, then the species is heading in the right direction, and likely would be better off in the long run then if they just committed mass suicide (like additive utilitarian theory might suggest). For that matter, there's a subjective aspect to utility; a medieval peasant farmer might be quite happy if he is 10% better off then all of his neighbors.
I think you're on the right track. I believe that a small population with high utility per capita is better than a large one with low utility per capita, even if the total utility is larger in the small population. But I think tying that moral intuition to the average utility of the population might be the wrong way to go about it, if only because it creates problems like the one CarlShuman mentioned.
I think a better route might be to somehow attach a negative number to the addition of more people after a certain point, or something like that. Or you can add a caveat that basically says for the system to act like total utilitarianism while the average is negative, and average when it's positive.
Btw, in your original post you mention that we'd need a caveat to stop people from killing existing people to raise the average. A simple solution to that would be to continue to count people in the average even after they are dead.