We have been using a budget for about 4 years. And yes, it's a formal budget and we track all of our spending.
We used Excel to build out our budget, but we use MS Money to track it. It's very easy that way because we can download all of our bank accounts/ credit cards into the software. It guesses correctly for most items, so I don't have to categorize anything. Then it quickly summarizes what categories we are over/under in. I find this extremely easy and useful.
There are a couple reasons we use an actual budget as opposed to just doing it in our head. 1) To make sure we save the money we plan to save. It's not to keep us from OVER spending as much as to make sure all the money makes it to where it's supposed to. 2) To keep a check in place so we don't start spending money on things without realizing it. 3) Because it gives us a complete picture of our money. It's very easy for us to decide if we can take on some expense, because we can look at the budget and decide exactly where the money can/can't come from.
Honestly, we rarely have a situation where we decide not to buy something because of our budget - we'll just shuffle things to make it work. But this is something we've decided to work on this year. We want to put the squeeze down a little on fudging across categories.
One other thing I wanted to mention. Part of our budget is individual spending money. At the beginning of the month, some money goes into my account and some goes into my wife's. That money is in the budget as 'spending money' and is always spent 100% as far as the budget is concerned. What my wife does with it from there is up to her. This works very well because I think wasting $20 on a candle holder or vase or whatever is silly and she can't see why I'd want to keep donating $10 at my Thursday poker game. This way, neither of us worry about it.