It's a complex thing and there's no one right answer for everyone. I agree with the OP in general, but then I also agree with Katisha's objections - particularly about music practice not always being "fun". It's been my experience that the children who do well over the long term at music are not necessarily the ones who show the most early promise, in things like naturally being able to sing in tune or play in time. Often they are just the ones who have better discipline, ability to delay gratification etc; the kinds of personality traits that are necessary for learning such a complex, labour-intensive skill.
More specifically:
1. the kids end up learning 3 pieces a year, none of which they chose.
That can certainly happen and probably does too often. But it's just a sign of bad teaching, or of too much focus (maybe from parental pressure) on the exam aspect. I always try to intersperse exam music with other things, and to put kids in for exams below their potential level so they don't become the be all and end all. The exam is then more just a "confirmation" of some things the child has achieved.
2. it's the ultimate in "teaching to the test"
Well yes, but then the test is to play the right notes at the right time, with a right sense of style - and these are pretty fundamental aspects of musicianship.
3. the exam pieces are not chosen for the power to "reach" or communicate with the children's peers
That's not completely true - that ability is certainly one factor influencing the choice of pieces.
4. being forced to follow an exam piece exactly as written discourages improvisation and creativity and excludes those who learn by ear not eye.
Not true: this is a false dichotomy.
When you're reading you're reading. When you're improvising you're improvising. Doing one, or doing an exam in one, doesn't in any way discourage your ability to do the other. It's true that most exams don't CATER to children who are better at improvising and ear playing, although there are for example the ABRSM jazz exams and such things are becoming more widespread all the time. But the exams are just tests in certain things; they don't stop anyone from doing other things as well.
5. there seems to be a pandemic of children at our primary school who play 3 pieces correctly, yet are completely unable to play along with another child or "jam"
Agree totally that that's bad. However it's probably more to do with the fact that most teachers are classical musicians, than the fact that they do exams. You'd probably find most of those kids' teachers have the same limitations.
6. the first question kids seem to ask each other about their music lessons is "what grade are you on?" not - "what can we play together?"
Yeah, that's also bad. IGrades are really not as significant as most people think.
7. In the case of the violin, I can personally testify that you can reach grade8 with whilst holding the bow completely incorrectly and making a harsh unattractive noise. So passing exams is not the same as having good technique.
Yep. And in most instruments you can pass grade 8 while having a woeful sense of rhythm that would get you thrown out of any jazz or rock band.
9. music should be fun.
Hmmm... you could say the same about reading or science, but we have no qualms making kids sit tests in English or Physics. Music also requires skills that take hard work to develop, and structuring the progression of developing such skills is just part of our education system. It's the job of the teacher to balance that structure with the "fun" aspect so they feed into each other.
10. a child can't do serious work on pieces that attract or inspire them because, if they are "ready" for the next test, such focus on things they actually enjoyed would be delaying their competitive progress.
Again, that's a teaching & overall management issue, not an exam issue per se. Though I agree it's a common problem.
11. it must be bloody boring for music teachers.
Can be. OTOH it can be a useful reality check, making teachers ensure that children actually acquire skills that can be demonstrably measured against criteria beyond themselves. One just has to remember that those skills are only a subset of what it means to be a musician; one has to make sure the child is entering the right race at the right time, for them, and have the strength to insist that for some the race is not appropriate.