It depnds upon how you do it, but computers can have alot more than 2 HD's if you want in any combination. You can have 2 internal, 1 internal and 1 external, 1 internal and 2 external, etc...
Fact is, sounds like you bought an external harddrive. If it's in a plastic case and has fans, it's external. To check how does it connent to your computer, USB or Firewire or both? If you're still postive you bought an internal, I can tell you what to do, but seriously sounds like external.
So this is gonna be easy for you then. Leave your OS on your internal drive and that's the drive your comp will boot from. Just boot into XP and plug the drive in. Windows will recognize it and install it for you.
For reference, both a: and b: are reserved for floppy drives. c: will always be the master harddrive. You can have partitions on that drive that will take d: or e: or f: and so on, but your primary partition will always be c:. Seeing as how you have an external drive, it's gonna take the last available drive letter.