When there were only the three matchsticks left, Ernie thought ito herself, "If the governor was a good person, everyone cwould be liveing happily".

Using "could" here sounds like you're talking about the future. A correct use of it would be "If I set fire the governor's house, the next governor might be a good person and then everyone could live happily". "Would", though, refers more to the present. "I would be living happy right now if the governor was a good person".

Realizing this, Ernie set fire to the governor's house.

Some sort of transition here would make the cause and effect more clear. Ernie set fire to the governor's house because she realized the governor wasn't a good person and it was his fault everyone was living unhappily.

Ernie was finally seen setarting these fires by police officers and, though, and had to ran away.

or "...setting fire to these buildings...". The verb "set fire" isn't used without an object.

"finally" usually has a good meaning. If you are saying Ernie was finally seen setting fire to buildings, that means it was a good thing she was seen. "though" reverses that connotation and means it's bad or disappointing that she was seen. "However" would do the same, if you prefer that word. "Ernie was finally seen starting these fires by police officers, however, ..."

OnAt the front line of the group of police officer groups chasing Ernie, there was an officer who was disturbingpurposely prevented the other officers from catching Ernie and let her go on purpose, letting her get away.

"let her go" means they already caught her, like "release". "let her get away" means they ALMOST had her, but she escaped.

"Distract", like the other comments suggest, would also be good: "... there was an officer who purposely distracted the other officers so that Ernie could get away."

HAt last, however, the police officers caught Bert at last and drove Ernie into a corner.

The way you have it is not wrong grammar, it just sounds better to keep the adverbs together. So "The police officers caught Bert at last, however, and drove Ernie into a corner." would also be good.

Ernie lit the last matchstick and lit her clothes on fire.¶
¶
OR¶
¶
Ernie lit the last matchstick and set fire to her clothes.

I prefer the second suggestion because using "lit" twice in one sentence is redundant.

The flame enveloped her quickly, but then, Ernie turned into a fire bird and flew off high into the sky.

You absolutely need "into" here - "Ernie turned into a fire bird". The only time you don't need "into" with this meaning of "turn" is when someone is becoming an adjective. "Ernie turned evil" or "Ernie turned orange", but "Ernie turned into a tree". If you don't want to use "into", you can just use "become": "Ernie became a fire bird". But turned into sounds better, so good job choosing that verb!

Save "flew off" for the next sentence. It means to fly away. You could use "took off" here, though, if you wanted: Ernie turned into a fire bird and took off high into the sky". "take off" means to start flying.

One last suggestion - to add more power to the "but then", adding something like "suddenly" here would really help. "The flames enveloped her quickly, but then suddenly Ernie turned into a fire bird".

The fire bird emittespread fire toacross the whole town and went away, then flew off.

"emit fire to" is not a phrase in English (it sounds cool, though - maybe it should be!). Unfortunately, English has no short way to say this (that I can think of, anyway). Some ways to say this sort of thing would be:

"Flames shot out from the fire bird across the whole town, and then the bird flew away"

"The fire bird flew over the whole town, leaving a wake of fire in its path, then flew off"

"The fire bird flew over the whole town, fire raining down from its feathers, then flew off."

NThe next morning, Bert was surprised to see that some houses were completely burned down but th, while others were left intact.

"while" and "but" both work here, In my opinion, "while" sounds better. Using "while" here slightly emphasizes that the two different situations are taking place at the same time. It's also a little more formal, so good for storytelling. If you wanted to be even more formal, you could use "whereas".

A quick note: if you use "but", the "were" one editor added is optional. If you use "while", it isn't optional and you need it.

Their difference between the two situations wereas obviously separate into two.

The people whose houses were burned down and who had passed away were all wicked ones.

When only ththere were three matchsticks left, Ernie thought ito herself "If the governor was a good person, everyone could live happily."

Then, the flame flared up quickly and other homeless people came toand surround the house to warm themselves.

"Then, when the flame quickly flared up, other homeless people came and surrounded the house to warm themselves." Is also another way you could have written it.

Next, Ernie set fire to the house of a money lender who was famous for itstheir high interest rate.

Since the subject of this sentence is the house of a money lender, you have to make sure you use "their" or "he" or "she" because the money lender is a person!

TAfter the flame started to burned up the house and, tons of gold coins showed up from the burned placwere left in the wreckage.

Your sentence also works, but is a little awkward.

On the front line of the police officer groups chasing Ernie, there was an officer who was disturbracting the other officers from catching Ernie and let, letting her go on purpose.

The flame enveloped her quickly,quickly engulfed her but then, Ernie tuned a fire bird and flew off high in the sky.

NThe next morning, Bert was surprised to see that some houses were completely burned down but the others left intact.

Their situations were obviously separated into two.

The town made a fresh start under the new name of Phoenix city and the first governor position was taken up by Bert.

When there was only the three matchsticks left, Ernie thought if the governor was a good person, everyone could live happily.

This doesn't make that much sense to me. Thinking someone is a good person means they are respected, nice, etc ... so if she thought that, why would she set fire to his house? Maybe rewrite this sentence?

Then, the flame flared up quickly, and other homeless people came toand surrounded the house to warm themselves.

Next, Ernie set fire to the house of a money lender who was famous for itstheir high interest rate.

The flame started to burn up the house, and tons of gold coins showed upappeared from the burned place.

I would personally write it like this:
As the house started to burn, tons of gold coins started to appear.

All of police officers in the town chased her, but no one could catch her.

On the front line of the police officer groupsquads chasing Ernie, there was an officer who was disturbracting the other officers from catching Ernie and let, therefore letting her go on purpose.

Ernie lit the last matchstick and lit her clothes.

This is correct, but we try to avoid having repetition in writing, especially in the same sentence. I would say:
Ernie lit the last matchstick and set fire to her clothes.

TShe flame enveloped her quickly, twas quickly engulfed in flames. Then, Ernie turned a fire bird and flew off high into the sky.

NThe next morning, Bert was surprised to see that some houses were completely burned down, but the others were left intact.

Their situations were obviously separated into two.

The people whose houses were burned down and passed away were all the wicked ones.

The town made a fresh start under the new name of Phoenix cCity, and Bert became the first governor was taken up by Bert.