"But what would we use if we DIDN'T have the tests?"

Yes, authentic assessment is possible. Look at what they're doing at East Side Community High School (and the rest of the New York Performance Standards Consortium):

Tiffany Mungin spent many nervous weeks researching and writing her paper about the Vietnam War. Her high school graduation was on the line. 

Unlike most New York state seniors, who vied for their diplomas by taking the state’s standardized tests, Ms. Mungin had to write a history research paper and an analytic essay in English/language arts. She also had to conduct an original science experiment and undertake an applied-mathematics project in order to graduate. The 18-year-old’s work would have to be evaluated by at least two teachers, and she would have to defend it in formal presentations to panels of educators.