>>
>>go to Tools -> Options -> Database Tools -> Data Connections. There is an option there to set the server instance name to use.
>
>Presumably that only sets the default? Did you try backing up a couple of frames in the Wizard to select from there ?
>Doesn't matter since you got it working - just curious.....
>

I'm not sure what Wizard you are referring to. I don't get an option to select the data connection anywhere. My steps were:

1. In VS2008, right click on project, choose Add | New Item...

2. Choose "Service-based Database" and give it a name, then click on Add.

3. At this point I got the error, now when I've switched it to SQLEXPRESS2008 it works.