Router & Proxy

The way I understand it a router basically does the same thing as ipchain and packet filtering in Linux. The both work at the network layer. A Proxy server like Squid works at the Application layer and has access to more information about the communication. My question is should I make a decision on one or the other as a firewall or would it be better to use them incombination? Also if I use them in combination should the router be placed between the internet and the Proxy or the Proxy and the intranet?

Note: I’m trying to do this with RedHat 7.0 on a Pentium 75.

Ron