I'm following the advice in a "how to" book while refinishing my
basement. Here's what I'm doing:

1. Fix a grading problem outside to stop water seepage.
2. Drylock applied to block walls.
3. 2x4 framed walls built as close to block walls as possible while
still being straight and plumb.
4. R12 fiberglass batts between studs, no paper.
5. Plastic vapor barrier stapled to studs on the interior side.
6. Drywall.

Step 4 is next, after the electrical inspection. Once you've fixed the
water/vapor coming in from outside (sounds like you have) the next
source of dampness is the inside humidity condensing on the cold
concrete. Thus, the insulation and the plastic on the 'warm side' of
the wall is the key.

At least I hope.

I can tell you what *not* to do, or what seemed to be acceptable in
1969: Knock holes in the block with a sledgehammer to mount electical
boxes. Nail furring strips to bare block. Apply dark wood paneling to
the furring strips. Lay down asbestos tile and call it a finished
basement.

That was one spectacular mess to clean out.