You have to alter/create the Desktop.ini within the folder thus:-
 
 
{BE098140-A513-11D0-A3A4-00C04FD706EC}={BE098140-A513-11D0-A3A4-00C04FD706EC}<{BE098140-A513-11D0-A3A4-00C04FD706EC}>
Attributes=1
IconArea_Image=C:\YOUR LOCATION\OF\ANY\IMAGE.JPG
IconArea_Text=0x00808040
 
Change "IconArea_Image=" so it points to the path of the graphic you wish to use. Then save your changes. You can set permissions on Desktop.ini to hidden so it won't appear normally (that is, if you have this set as such under Folder Options).
Note that "IconArea_Text=" is in the hex format 0xABGR (Alpha, Blue, Green, Red), so if you know the RGB values of a color you want to set the icon text to, you can change it along the lines of these examples:
0x00000000 = black
0x00FF0000 = blue
0x0000FF00 = green
0x000000FF = red
0x00C000C0 = purple

To add wallpaper to a folder in XP, open the folder, choose Tools, Folder Options, and click the View tab. Under 'Advanced settings', select Show hidden files and folders (you may need to double-click Hidden files and folders first). Uncheck Hide protected operating system files (Recommended) and click Yes when you see the warning. Click OK, and double-click the file named desktop.ini to open it in your text editor (you may not see the .ini extension). If you can't find a desktop.ini file, launch Notepad or your preferred text editor.
 
In your text editor, type [{BE098140-A513-11D0-A3A4-00C04FD706EC}] (this line contains no capital letter Os, only zeroes) on the first line, and press Enter. Type IconArea_Image= and the path to your .bmp, .gif, or .jpg image file--for example, 'IconArea_Image=C:\My Documents\My Pictures\Blue Hills.bmp.' Then press Enter.  
 
Changing the color of the folder's icon labels is a little tricky. To leave the icon text black, do nothing. For white, type IconArea_Text=0x00FFFFFF (make sure that the x is lowercase) and press Enter. For red text, replace the code that follows the equal sign with 0x000000FF; to make the text yellow, type 0x0000FFFF; for blue text, use 0x00FF0000; and to show gray text, enter 0x00808080. These codes identify values in a 24-bit color scheme that specifies how much blue, green, and red to mix together: 0x00bbggrr (with values ranging from 0 in decimal or 00 in hexadecimal to 255 in decimal or FF in hexadecimal). If you're editing the folder's existing desktop.ini file, save the file and close your text editor. If you created the file from scratch, save it with the name "desktop.ini" in the folder that will house the background picture; use quotation marks to keep Notepad from adding its default .txt extension.