Urban food markets are essential channels of food distribution and spaces of social interaction where COVID-19 could be easily transmitted. The Peruvian government used budget incentives to motivate local governments to implement social distancing and food safety measures in these markets. Two surveys, in May and November 2020, show that municipality-owned markets had better compliance than privately or vendor-owned markets, especially with vendor protection measures and common space adaptations. Qualitative interviews helped to identify plausible causal mechanisms that explain this finding. Local governments perceived legal restrictions to investing public funds in privately owned markets, while vendor-owned markets faced agency dilemmas and opportunistic behaviour in decision-making about the required collective investments. We argue that a small-grants or loan facility specifically targeted at vendor-owned markets could have reduced these governance challenges and improved compliance. Peru’s budget incentive policy to support food market governance could inspire other countries to design appropriate policy instruments for food safety and public health.