Countrywide Financial (NYSE:CFC) shares spiked over 10 percent today after dropping substantially over the last few days on bankruptcy concerns. The bounce has been widely attributed to recently commentary that the mortgage lender may be too large to go bankrupt in the same way that Long-Term Capital Management was too large to go bankrupt – there’s too much at stake.

Countrywide recently announced that foreclosures and late payments on mortgages in December rose to their highest levels in five years, spelling out even more problems for the troubled mortgage lender. The huge number of bad loans alarmed many mortgage analysts, one of which said “the extent of the deterioration is a surprise”. Currently, Countrywide has a portfolio of around $1.5 trillion in loans that could prove to cause a crisis on Wall Street if the firm went belly-up.

So, could Countrywide go bankrupt? Well, Guy Cecala of Inside Mortgage Finance was quoted on PBS’ Nightly Business Report yesterday as saying that lawmakers would most likely lean towards propping up Countrywide and readying it for a merger rather than see it fall into bankruptcy. Indeed, any failure on the part of Countrywide would cause widespread problems throughout the mortgage industry. Loans would be significantly more difficult to obtain while liquidity in the marketplace would be impaired.

In the end, Countrywide is clearly in trouble right now. Foreclosures and rising defaults are dealing a double blow to the company as the firm is not only suffering losses on the loans themselves but also its mortgage securities are becoming increasingly difficult to sell due to their substantial drop in value. Whether or not the government will allow Countrywide to go bankrupt remains to be seen, but if they do, there will be huge problems in the United States housing market and economy.

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