Check the wires coming from the trucks. On some diesels, sometimes they scrape the chassis and create a "resistive short" when the insulation starts to wear through. Removing the truck and putting a little shrink tubing or paint-on insulation fixes that. At the same time, slipping a piece of electrical tape into the slot also helps.
All MTH 2-rail Proto-2 and Proto-3 locomotives will run on analog DC (sound, but no horn/bell) or analog AC (horn and bell available with standard 3-rail transfomer). Some transformers, however, use "phase limiters" to vary the voltage which creates a choppy sine wave that the engines hate. A pure AC transformer like the newer MRC, or an MTH Z4000, or the older AC train transformers from Lionel and American Flyer (put a 10-amp fast-blow fuse in line with the power) will work.