* Inquiry is first step to possible formal investigation
* Government acted "prudently" -President Santos
By Jack Kimball and Nelson Bocanegra
BOGOTA, Nov 15 (Reuters) - The Colombian Inspector General's Office, which investigates public officials, opened a preliminary inquiry on Thursday into whether the government dropped the ball before the collapse of the country's largest brokerage house.
The downfall of Interbolsa has dented investor confidence in the Andean nation's capital markets, but has not shown a broader contagion to the financial system in Latin America's fourth-largest economy.
The Inspector General's Office said it would gather evidence to see whether government bodies or ministries failed to properly monitor the brokerage. An inquiry is the first step in a possible formal investigation.
The office is an autonomous agency charged with monitoring public officials' behavior.
On Wednesday, the Attorney General's Office said it would open a criminal investigation into the case, citing conflicts of interest, possible share price manipulation and "hiding" information as reasons for the inquest.
Grupo Interbolsa, the brokerage's parent company, said the financial entity had supported the wrong investment strategy, but had in no way deceived its clients or the market.
The financial market regulator essentially took over Interbolsa earlier this month after it was unable to make a payment due to a liquidity squeeze tied to repurchase agreements, or repos.
Colombian authorities are liquidating Interbolsa after it failed to make a scheduled bank payment.
"It's the largest and most illiquid liquidation that I've ever had. Last week we had no way to make payroll," said Jose Ignacio Arguello, who is heading the liquidation of Interbolsa, the fifth process of this kind that he has led.
"Nowadays, we're totally illiquid," he told journalists.
Arguello said that from Nov. 19, he would begin handing back to clients securities managed by Interbolsa worth 7.2 trillion pesos ($3.9 billion). The company has assets of 1.8 trillion pesos and obligations of 1.7 trillion pesos, he said.
The government has repeatedly said it was a one-time event and not indicative of wider problems in the economy.
The brokerage, with about 50,000 clients, accounted for about one-third of daily operations on the stock market.
The debacle has so far only affected the brokerage, which is part of the larger Grupo Interbolsa that includes insurance and investment arms and also operates in Brazil, Panama and the United States.
The brokerage's shares have been suspended from trade until Monday.
Market players have taken a wait-and-see approach over Interbolsa, agreeing with the government that it was probably an isolated case, but also staying alert to any signs of a spillover into other companies.
Speaking on a trip to Portugal, President Juan Manuel Santos said that the government had quicly responded to the scandal.
"It's a demonstration of how to act properly," Santos said. "(The government) acted prudently but forcefully."