I used to dual-boot XP back in the old days before 7 came out. I used a stripped install of XP as a gaming installation, where everything that wasn't necessary to keep running was disabled or uninstalled. This is because XP's performance deteriorates much faster than 7's, or that has been my experience anyway.
With Windows 7 I have not seen any benefits from doing that, although I did try it. The system itself does slow down over time, but strangely enough it does not seem to affect third-party applications, games included, much.
I would not go back to XP if it were not for the surprisingly small amount of RAM you have in your system. In your case a separate XP gaming installation is probably necessary rather than an option.