Richard, I have an '85 and can give you some tips. The O2 sensor is before the cat convertor, so removing it should have no effect, however if the sensor is not functioning, you will have lower milage since the default (non-functioning) setting will waste fuel. Your avg. MPG is just a bit on the low side, but nothing that would indicate a sensor fault.
My guess is that the middle resonator (muffler) right after the cat has also been removed. That muffler adds quite a bit of noise control and you might consider replacing it. As for the final muffler it's really a matter of personal choice. Cost wise, aerospeed is popular, Ansa's supersprint and at the upper end, Remus.
The K&N filter that replaces the stock element is fine, just don't over oil it and it should last the remaining life of the car with proper cleaning. The stock MB filter is also good. You're not going to have any significant HP increase from these stock elements. You might get more from a cold air intake, but the stock MB system, provided that your ducting is intact, is still quite good.