Do not use rvm (or install and run from JåRuby). The google-appengine gem must install into your system MRI. The appengine-sdk gem includes a complete Java app server. We bootstrap Java from MRI, then your app runs inside a servlet container (with access to all the APIs) using the version of JRuby installed into each app.
We assumed Rails 2 would never work without rubygems, and we committed to gem bunlder for JRuby on App Engine, so we were waiting for Rails 3. Fortunately, Takeru Sasaki was able to patch the Rails 2.3.x calls to rubygems, and now we have it working. Rails 2.3.x currently spins up several seconds faster than Rails 3, and just a few seconds behind Sinatra.
See the TInyDS version also: gist.github.com/gists/269075