How to replace the siding on the garage when its on the property line, and 12″ adjacent to another structure

Advice I've generally heard is that to prevent warping, you should treat the back the same way you treat the front (so they absorb and release moisture in the same ways). If you're going to paint the outside, priming the back seems a Good Idea. (Of course cedar doesn't necessarily need to be painted; cedar shakes have often been allowed to weather to a natural grey.)

I'm not sure whether exterior stains are more like paint or no-paint.

As a forenote, I'll be cribbing heavily from BSI-001, BSI-061, BSI-068, and BSI-086 for this answer. Also, 2x6 studs are good, especially when used in conjunction with the rest of the advanced framing package -- whoda thunk you could get more wall for less wood? However, I'd switch to rockwool for the cavity batts instead of fiberglass -- you get less sagging, a bit more R-value per inch, and easier handling to boot as the stuff doesn't flop all over the place on you. Finally, use latex paint for the interior wall finish, never an alkyd paint, and never vinyl wallpaper (spoiler: vinyl wallpaper is a very effective vapor barrier on the wrong side of the wall, leading to mold-manufacturing condensation in the summer). Now that the rest of your wall is out of the way, we can address the stuff you are asking about.

Sheathing

The exterior sheathing performs multiple functions in a typical stick-built wall assembly:

• It serves to resist shear and racking loads on the wall
• It provides a uniform surface for the barrier layers, if it is not taped to serve as a barrier layer itself
• It often helps control vapor even if it is not a barrier layer in its own right
• It also helps resist penetration (piercing) of the wall (by windblown debris in a storm, for instance)

Plywood is excellent at all four of these functions, which is why it is traditionally used for wall sheathing. Wood boards can be used instead, but we're talking 1x8 boards mounted diagonally here as a dedicated sheathing layer, not your cladding, which is always separate. Good OSB can also be good, but you need to be a bit more careful with it as it will rot if it stays wet -- in a good wall, it works well, but it's less tolerant of oopsies like the arrival of some nitwit interior designer who's obsessed with vinyl wallpaper. Maximizing oops tolerance is possible, but requires going to glass-faced gypsum board exterior sheathing (the yellow stuff you see used over steel studs in commercial work), which sacrifices some of the penetration (puncture) resistance you get with OSB, plywood, or boards, but gains you the ability to do a vapor permeable wall assembly, through and through.

Given all that, go with a a good grade of OSB if you are cost-conscious and not terribly concerned about fire performance; if all the OSB around is cheap stuff, then go with the plywood -- the wood boards pose a compatibility issue for adhered or fluid applied barrier systems. If you were going for a masonry or steel stud structural wall, then I'd go to the gypsum in a heartbeat -- it's less common with wood structural walls, but is still a good option if you want to spring for the premium approach or are like me and are a bit paranoid about fire. The glass-faced gypsum board simply will not burn, for that matter, which is a good thing in your case.

Air/Water Barrier (Housewrap)

This is actually the next layer out in the wall -- unless you're using air/vapor impermeable foamboard insulation that serves as the barrier itself when taped, it must be applied directly to the sheathing. Taped OSB or even taped plywood provides a good air barrier, but OSB especially needs to be protected from moisture ingress by a water resistive layer that's at least somewhat vapor open (look for about 10-20 perms). Given that, you might as well just use a suitable WRB layer -- modern self-adhered or fluid applied products perform well for both functions, and don't have problems with blowing off or getting holes punched in them.

Exterior Insulation

While foamboard is an option for exterior insulation here, I'd recommend using rockwool here to provide a degree of fire protection to the readily cookable stuff (WRB, sheathing, studs, interior) on the inside. You'll want plenty of the stuff, too -- considering you're using 2x6s for the studs, 6" of exterior insulation is going to put you into good territory regarding the overall R-value considering that exterior insulation is continuous, and thus counts for more R-value, inch for inch, than cavity insulation does.

Furring

A half-inch metal hat channel provides adequate air gap for most claddings (save for masonry veneers) that have been properly prepared. Also, it won't catch on fire even if the siding's a roaring bonfire. It's not as nice from a structural engineering perspective as 1x2s on the flat for furring, but it'll do the job considering that you're using a fairly lightweight cladding. Attach these on your stud centers\ with long fasteners through the insulation to the studs -- that's the only way they'll do their job, considering they have to run vertically in order to allow air and water flow vertically through the assembly.

Speaking of the siding, I'd have used fiber-cement instead of the pine simply because fiber-cement won't burn. However, the pine siding is probably OK for your case as long as your landscaping is appropriate (i.e. won't let a forest fire easily reach the house). Make sure to back-prime the siding though to avoid reservoir cladding woes!

Ventilation (and a bit of flashing while we're at it)

The bottom of the gap needs to be detailed with welded wire mesh to allow water to get out and air to get in while thwarting the entrance of critters (not that they enjoy rockwool, that is). You'll want to flash the bottom of the rockwool under the inside of the wire mesh so that water can drain out cleanly, as well -- this flashing detail also helps protect against critter intrusions, and needs to terminate to the foundation wall in order to do that. (It's far more important if you decide to go with foamboard BTW -- ants will happily gnaw through your foam to find the wet spots in it and then proceed to chill out there, and furry, squeaky critters will gnaw on well, almost anything they can.)

As to the top? I'd detail it with a similar welded-wire-mesh vent to the outside -- this prevents a stack-effect coupling of the wall-space to the attic-space. It also works with unvented roofs, which are a definite option in your climate.