Hi,
with standard Arduino (with ATmega328) two PWM outputs for SimpleSDAudio are availible, either for stereo 8-bit or mono 16-bit. For mono 16-bit you have to set it up like it would be stereo mode and you have to use the 16-bit SOX batch-files for processing. You end up with 2 PWM outputs, one playing the 8-bit sound and one playing loud "noise". But when you add this noise-channel to the other using those pots, the result will be much less noise.
For start you can also use a 74HC14 chip. Often in catalogs these chips have numbers starting with SN, so SN74AC14 is also the right one.
If you want to use your LM386 amp do the 16-bit combining before routing it to the amp. Use this circuit: Datei:SSDA Simple16bit.png – Hackerspace Ffm. But without the 74HC14 or 74AC14 it is hard to get rid of the noise coming from PWM-LED-Dimming.
Good power deblocking is essential for audio quality. Try to add some caps, 100nF but also one much bigger electrolytic cap in the 10uF to 100uF region. This is also done in my Fritzing schematic, so you got it right.
Dual-PWM output does not increase the volume itself (only if you use bridge-mode without any additional amplifiers). I use two PWM outputs with stereo-setting (SSDA_MODE_STEREO) and combine those to 16-bit mono for better audio quality. The 74AC14 will then increase volume and decrease noise if decoupled correctly by filtering the uC-noise out on the PWM outputs.