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#1. Ordinarily, I would say that Firestone is similar to the Scott Atwater model 501. But the 501 was 4hp. So…(?). But yes, that is a gear shift lever, and the gizmo you are looking at is the reverse tilt lock to hold it down when shifted to reverse. As for the springy feel, a lot of those era Scotts had a flat spring steel bar as a drive shaft. A "shock absorber" if you will. Sounds like the lower unit may be froze, and you are feeling the wind-up feature of the drive shaft.
#2. That is a Clinton motor, adapted from a Clinton Chainsaw engine. The powerhead is air cooled, but as you suggest, it does have a water pump to cool the exhaust. And it is necessary for the pump to work, because if it doesn’t, the exhaust will get extremely hot and the powerhead overheats too because it is like sitting on a hot stove.