* EU says Hungary has yet to respond to President Barroso's requests * S&P cut to "junk" follows similar Moody's action * Govt criticises downgrade, expects IMF talks to go ahead * Pressure mounts on PM Orban to change econ policy * Risk Orban will not change course -analysts By Krisztina Than and Gergely Szakacs BUDAPEST, Dec 22 (Reuters) - Hungary's second credit ratings downgrade to 'junk' in a month has heightened the risk of a full-blown market crisis, with investors anxious to see whether it will push the country closer to or further away from an international aid deal. The European Commission said on Thursday Hungary has yet to respond formally to a weekend letter from European Commission President Jose Manuel Barroso seeking the withdrawal of legislation Brussels believes breaches European Union law. The dispute over a new central bank law, which the EU says threatens the bank's autonomy, led to a collapse of informal talks with the International Monetary Fund and EU last week. "President Barroso asked for the bills to be withdrawn, because he's concerned that they might contravene the treaty," Commission spokesman Olivier Bailly told a briefing in Brussels. "We haven't reached that stage yet. It is still up to the Hungarian authorities to respond to the president's request." The Commission said talks Budapest had requested on possible financial support from the EU and the International Monetary Fund would start in January and would be formal. However, late on Thursday Bailly issued a clarification to say that the EU had not decided yet on the talks. "The European Commission has not decided yet on resuming formal or informal talks regarding financial assistance with Hungary," he said. The government has said it expects official aid talks to start on Jan. 10. Late on Wednesday, Standard & Poor's cut Hungary's long-term rating by one notch to BB+, just below investment grade, citing the government's unpredictable policies and renewed meddling with the independence of the central bank. The downgrade, which further widened the ratings gap with central European peers, sent the forint currency lower and lifted bond yields, adding to pressure on Prime Minister Viktor Orban to start negotiations with lenders on a funding backstop. The government said the downgrade was unjustified. Economy Minister Gyorgy Matolcsy said the government was eyeing a precautionary IMF/EU credit line, and repeated that parliament will pass a new central bank law that takes into account the opinion and proposals of the European Central Bank. The law has been amended by the ruling Fidesz party but the ECB said on Thursday it was still concerned that plans to expand the Monetary Council and increase the number of deputy governors could pose a risk to the bank's independence. Hungary's five-year bond yield shot above 9 percent in thin trading although the deputy head of the debt agency said he did not expect the news to spark panic selling. COLLISION COURSE? The Fidesz party led by Orban, who broke ties with the IMF in 2010 to regain "economic sovereignty", is expected to push through legislation this year despite EU objections. Barroso asked in his letter for the central bank bill to be withdrawn and the EU has also criticised a draft financial stability law. "At the moment (Orban) is sitting in the car in head-on collision mode and is not willing to move," a diplomatic source told Reuters on Wednesday, before the S&P downgrade. Orban has said he is seeking an "insurance" type funding deal which could help Hungary retain access to markets next year, but at the same time does not want lenders interfering with his unconventional economic policies. "(The downgrade) could, alongside market weakness, push Hungary towards engaging more constructively with the IMF and EU. It may also serve to fast-track the negotiations," Barclays said in a note. "But there is also a risk that Hungary's government will try to soldier on without outside financial support, instead turning to more unorthodox policy measures." The government has stabilised its budget with a series of ad hoc taxes and nationalised pension assets since it swept to power with a two-thirds majority in April 2010. Some measures have shocked investors and earned the ire of the European Union. The opposition Socialists called on Fidesz to replace Orban, but political analyst Zoltan Kiszelly said Orban's big majority in parliament cemented his position. He said Orban was unlikely to change course at this stage as he needed a good political exit strategy to be able to make such a marked shift in economic policy. "He is hoping that the other side (the EU) would swerve first," he said. SECOND CUT TO JUNK Rating agency Moody's also cut Hungary's debt to junk grade in late November, citing poor growth, high debt and uncertainty about its ability to meet fiscal goals. Hungary aims for one of the EU's lowest budget deficits next year at 2.5 percent of GDP, but a threatened recession could jeopardise that target and a government pledge to reduce debt which at 80 percent of GDP is the highest in central Europe. Hungary needs to roll over 4.8 billion euros in external debt - on top of forint-denominated paper - next year. The forint traded at 306.85 to the euro on Thursday at 1554 GMT, recouping some of its losses following the downgrade which pushed it lower in overseas trade on Wednesday. Investors were seen as likely to delay selling Hungarian assets until the new year or until Fitch, the last agency to rate Hungary investment-grade, decides to cut its rating too. But the cost of insuring Hungary's debt against default for five years jumped 44 basis points to a three-week high of 612 basis points in the credit default swap market. "Hungary's economic fundamentals do not justify a junk rating, but the damaging policies of the Hungarian government have undermined investor confidence and this is the key reason why both Moody's and S&P have decided to cut Hungary's rating," Danske Bank said.