Since they see each other so seldom, and only in group settings (where after greeting each other, she will probably turn to the adults and he will go off with cousins or off to occupy himself, as he should), I would not worry much about "managing" this situation. She doesn't know anything about kids this age, clearly, and it sounds like she might be a person who is not going to be open to being told that.
If your family does want to say something, your husband -- not you, him, because his family is his job here -- could try, "Hey, sis, about Billy. I heard you say his hug was 'insulting.' I get that he wasn't very affectionate but there's something I wanted to let you know. He isn't intentionally insulting you. This isn't even about you, really, but about his being a kid of seven. Kids at seven get shy and balky with lots of people, and don't respond well to parents' orders to hug and and so on. We'll always tell him to say hello because that's basic respect for an adult, and we always expect that. But if he isn't all about hugging and affection, please try to understand that his stage and age mean he just isn't going to be all warm and fuzzy. We wouldn't excuse or condone rudeness from him, but we also won't push him to be huggy either."
Still, I suspect she won't respond too well to that. I'd have husband say his piece and then move swiftly on to another topic. Don't worry too much about "keeping the peace" since you don't see her on your own as a family and you don't sound as if you're close to her emotionally, to be honest.
I would talk to your son and just say, before an event where he'll see her, "When we go in and say hello to everyone, we expect you to go up to Aunt and say hi directly to her. If she asks what you've been doing, tell her about (activitiy he likes). As soon as you have said hello you can go downstairs and (whatever he might do to keep busy, or 'you can go get a snack' or whatever these gatherings are like....)" Prepare him in advance next time you know she'll be there. He does not have to fake hugginess but he does have to say hello directly to her and not try to hide behind you or dash away fast--that's just good practice for social skills. But no, it's not his responsibility to re-do a hug that she expects to be different.
If she were really interested in a relationship with him she would learn a bit about kids and would bring along something they could do together like an age-appropriate game, or a game for him to play with cousins if any are there. But it sounds like she's just focused on his greetings and expecting warmth that isn't going to be there, which is understandable since he seldom sees her.