No. Windows XP mode runs in "seamless" mode. The application shows up in the taskbar just like any other program, allowing you to easily switch back and forth.
There's an excellent video at TechRepublic showing Excel 2003 on the VPC and Excel 2007 on the host running side-by-side.
From the Washington Post (weird place to get tech details, but they're right!):
Where XP Mode really shines is with
Seamless Mode, which lets you launch
XP apps straight from your Windows 7
menus. To use Seamless Mode, you first
install an app under Desktop Mode,
then log out of and close the virtual
machine. The app you just installed
can then be found on the host PC's
Start menu under All Programs, Windows
Virtual PC, Windows XP Mode
When the app is launched from the host
OS, XP launches in the background and
the app appears as if it were running
natively in Windows 7. Apps run this
way are called virtual applications.
If you don't find the default start
menu location to be convenient, you
can move the shortcut to any location
a traditional shortcut can be placed.
If the app you want to virtualize
doesn't automatically create a Start
menu shortcut, or the app is already
included with Windows (Internet
Explorer 6.0 for example), you simply
need to create a shortcut for it in
Desktop Mode under c:\documents and
settings\all users\start menu and the
app will appear on the host start menu
under Windows XP Mode Applications.
Seamless Mode isn't completely
seamless; there are couple issues with
it. In multi-monitor setups, the
virtual application only lives on the
primary monitor. Also, virtual apps
don't want to play along with the
Windows 7 Snap feature. Their Windows
needed to be manually resized. It's
also important to note that virtual
applications and Desktop Mode cannot
be used simultaneously. Finally,
you'll need to keep in mind that a
full OS needs to boot before a virtual
app can be run, so a little patience
will be needed on that first launch.