The game is loosely based on a book of the same name, The Haunted Carousel (1983). Each mode offers a different difficulty level of puzzles and hints, but neither of these changes affect the actual plot of the game. There are two levels of gameplay: a "Junior" mode, and a "Senior" detective mode. In previous volumes of the series, these endings typically involved Drew's death however, in The Haunted Carousel, a more frequent conclusion is Drew being fired for a mishap. Wrong decisions can cause the game to end. Drew must determine whether the painted ponies are searching for their missing lead horse, or whether there is another explanation for the "midnight rides." There is a rumor going around that the park is cursed. The park is shut down until the city knows what caused it. Then the roller coaster suddenly lost power, resulting in a serious accident. After that the carousel began mysteriously starting up in the middle of the night. First, the lead horse disappeared off the carousel.
Paula Santos, the owner of Captain's Cove Amusement Park in New Jersey, has asked Nancy for help because there have been mysterious things happening at the park.