WASHINGTON BUREAU — Elizabeth Warren today called American International Group Inc. (NYSE:AIG) a “corporate Frankenstein,” and analysts questioned how well the company can do without government help.

Elizabeth Warren, chairman of the Congressional Oversight Panel on the Troubled Asset Relief Program, appeared along with the analysts, AIG executives and others at a panel hearing on AIG, New York.

Warren, a Harvard bankruptcy law professor who once was famous in the insurance industry mainly for quantifying the effects of health problems on home mortgage foreclosure rates, praised the House and Senate for developing financial services bills that “create a much better process for monitoring systemically important firms and winding them down if they falter — a process designed precisely as a response to the wildly expensive and unruly bailouts of companies like AIG.”

AIG is “a conglomeration of banking and insurance and investment interests that defied regulatory oversight and that would not have fit easily into the existing bankruptcy structure,” Warren said.

“The rescue of the American International Group was so extraordinary that it bypassed the entire legal process of bankruptcy,” Warren said. “In saving AIG, the government invented a new process out of whole cloth, a parallel set of rules devised and executed for the benefit of only one company.”

At an earlier TARP Congressional Oversight Panel hearing, Warren suggested that giant financial institutions need the corporate equivalent of “living wills,” or arrangements for shutting them down if they become incapacitated.

THE VIEW FROM AIG

AIG President Robert Benmosche testified at today’s hearing that AIG is on a “clear path” to repaying the government and “remaking itself into a more streamlined and focused company.”

“We are redefining our strategy, restoring our financial strength, strengthening our key businesses, bolstering our corporate governance, instilling a focus on performance management, and making strategic hires to ensure that our remaining businesses thrive,” Benmosche said.

AIG has become less reliant on government aid and is better able to tap the capital markets, Benmosche said.

AIG also is working hard to sell its AIA and Alico units, for a total of $51 billion, and the insurance businesses that AIG is keeping are doing better, Benmosche said.

An annuity unit, SunAmerica Financial Group, reported $1.1 billion in operating income in the first quarter, up from an operating loss of $160 million in the first quarter of 2009, thanks to an increase in investment income and expansion of its distribution network, Benmosche said.

“The business has continued to stabilize and will continue to pay a key role in AIG’s diversification of income,” he said.

THE ANALYSTS WEIGH IN

Rodney Clark, a managing director at Standard & Poor’s Rating Services, New York, and Clifford Gallant, head of property and casualty research at Keefe, Bruyette and Woods, New York, said they have concerns about how well AIG will do when the government starts to pull out.

The capital of AIG’s insurance subsidiaries is “generally insulated by state insurance laws and regulations” from problems at the parent company and non-insurance affiliates, Clark said.

But S&P has lowered the credit ratings of the AIG insurance subsidiaries because “we believe the creditworthiness of those subsidiaries is nevertheless indirectly affected in two primary respects,” Clark said.

“In our opinion, financial pressures at AIG generally make it less likely that AIG will be in a position to provide additional capital to its subsidiaries in the event the subsidiaries suffer investment losses of their own or otherwise require recapitalization,” Clark said.

The second issue is “reputational risk,” Clark said.

“It may be more difficult for the subsidiaries to retain and attract new customers where there is uncertainty surrounding the parent company — particularly in light of a dampened demand for insurance and, more significantly, marginal pricing,” Clark said.

S&P has a negative outlook on AIG a whole. “The negative outlook reflects uncertainty with regard to legislative risk and its potential impact on the government’s ability to continue to provide extraordinary support to AIG, if needed,” Clark said.

Gallant told the oversight panel that AIG common shares are “grossly overvalued,” and he said AIG “may eventually need to raise significant equity capital from public markets in order to fully stand alone.”

As the risk of the company collapsing in a way that shakes the U.S. financial system fades, Keefe Bruyette believes “there is a risk of a shift in government priorities to favor [taxpayer] interests,” Gallant said.

“Without a material transfer of value from the taxpayer to the shareholder, we believe the effects of full dilution, debt/preferred repayment and stock sales will leave little value left for the stub shareholder,” Gallant said.

THE COUNTERPARTIES ISSUE

AIG ran into trouble mainly because a financial products unit sold what seemed to be relatively low-risk arrangements protecting holders of mortgage-based securities. The financial products unit foundered when the 2008 mortgage market meltdown turned what had once seemed to be safe, plain vanilla mortgage-backed securities into securities that appeared to have a high risk of default

Officials from the Federal Reserve Board of New York said the Fed had to make AIG financial products unit counterparties whole to avoid the possibility of a “selective default” that would have caused the rating agencies to lower AIG ratings, and the states to respond to the lower ratings by seizing control over the AIG insurance subsidiaries.

Martin Bienenstock, a lawyer and corporate reorganization expert, testified that he believes the New York Fed was in a strong position to demand concessions.

Negotiations have won workouts in recent deals involving the monoline insurance companies, Bienenstock said.

“I have had limited involvement in those negotiations, but my firm has been very involved on behalf of the insurance companies,” Bienenstock said. “Consensual discounts were and are being granted in very material amounts… There are many uncertainties causing counterparties to grant consensual discounts.”

Damon Silver, the AFL-CIO associate general counsel and a TARP board member, said the New York Fed and AIG have disclosed too little about the dealings with the financial products unit counterparties.

“Why are the legal documents embodying the derivatives deals and securities lending deals that led to AIG’s collapse still secret from the public that ultimately paid for those deals?” Silver asked.