When electrons are confined in two dimensions and subject to strong magnetic fields, the Coulomb interactions between them can become very strong, leading to the formation of correlated states of matter, such as the fractional quantum Hall liquid. In this strong quantum regime, electrons and magnetic flux quanta bind to form complex composite quasiparticles with fractional electronic charge; these are manifest in transport measurements of the Hall conductivity as rational fractions of the elementary conductance quantum. The experimental discovery of an anomalous integer quantum Hall effect in graphene has enabled the study of a correlated two-dimensional electronic system, in which the interacting electrons behave like massless chiral fermions. However, owing to the prevailing disorder, graphene has so far exhibited only weak signatures of correlated electron phenomena, despite intense experimental and theoretical efforts. Here we report the observation of the fractional quantum Hall effect in ultraclean, suspended graphene. In addition, we show that at low carrier density graphene becomes an insulator with a magnetic-field-tunable energy gap. These newly discovered quantum states offer the opportunity to study correlated Dirac fermions in graphene in the presence of large magnetic fields.