Closing window reveals that bridge cavity

[mikerj]

I have an early 30's semi and just had new windows fitted. In the kitchen, the previous window was an aluminium framed double glazed unit fitted into a large hardwood frame. The sides and top were originally closed with plasterboard, which bridges the cavity with no obvious insulation or damp-proofing. Since the new UPVC window frame is narrower than the original hardwood frame, there is now a large gap, so the old plasterboard needs to be replaced.

Following links show the problem:

http://s905.photobucket.com/user/mikerj/media/IMG_0842_zps36213f72.jpg.html

http://s905.photobucket.com/user/mikerj/media/IMG_0843_zpsa37134db.jpg.html

The damp on the top of the window was caused by the upstairs bathroom window leaking (very badly!) into the cavity, this window has also been replaced and well sealed. There have been no other damp issues, which is slightly surprising to me as it doesn't seem like a great idea bridging a cavity like this using plasterboard without any damp proofing, or was this standard practice in the dark ages?

The question is what is the best way to finish this? Close the cavity with some insulation (or extortionately priced cavity closers) and fix plasterboard back as it was, or some other, better method? It needs to remain at this same thickness to meet up with the wooden bead where the wall plaster meets the window.

Thanks for any suggestions.