We build a multi--sector model with endogenous sector-biased technical change. We show that if the return to specialization is larger in the goods than the service sector, there is a generalized balanced growth path along which aggregate growth is balanced; structural transformation takes place from goods to services; the service sector receives more innovation but has less productivity growth. The laissez-faire equilibrium of our model directs too little innovation and too much labor to the goods sector compared to the social optimum. This suggests that industrial policy should aim to reduce, not maintain, the size of the goods sector.