How do I set up an sftp user to login with a password to an EC2 ubuntu server?

In order to accomplish what you wish, you need to do two different things

1. Change sshd config to accept passwords

I shall say first of all that it's a bad idea to do this, I would rather generate a certificate for your user than activate passwords, nonetheless if you want to do so just edit /etc/ssh/sshd_config and change or uncomment it so it shows PasswordAuthentication yes. Once that is done restart sshd service ssh restart

2. Let users just FTP using sftp and not have shell

In order to acomplish that you need to install rsh (resticted shell) and change the user shell to it chsh username