But the EPA does have sticks to hold over the states and localities.

The EPA letter to VW (6 page .PDF) has all the details about the allegations, the relevant federal laws, etc.

EPA FAQ on the VW situation:

Can EPA require Volkswagen to recall these vehicles?

Yes. EPA has the authority under section 207 of the Clean Air Act to require a manufacturer to issue a recall when EPA determines that a substantial number of vehicles do not conform to EPA regulations.

Is EPA officially requiring Volkswagen to issue a recall now?

No. EPA expects to compel VW to issue a recall in the future to reduce the emissions impacts of these vehicles. Owners will be notified of that recall once Volkswagen and Audi have developed a remedial plan and EPA has approved the plan. Manufacturers are given a reasonable amount of time to develop a plan to complete the repairs, including both the repair procedure and manufacture of any needed parts. Depending on the complexity of the repair and the lead time needed to obtain the necessary components, it could take up to one year to identify corrective actions, develop a recall plan, and issue recall notices.

Will I be required to have my vehicle repaired once it is recalled?

That depends. Some states require proof that emissions recalls have been performed prior to issuing the vehicle registration. Even in states that do not have this requirement, it is important to have emissions recalls performed because without the repairs, your vehicle may be emitting harmful pollutants in excess of the federal emission standards. You are not responsible for repair costs related to an emissions recall.

I live in an area that requires periodic emissions tests. What happens if my car fails?

It is unlikely that the presence of this device will cause your vehicle to fail. In fact, the defeat device was specifically designed to ensure that vehicles would pass inspection. The defeat device has been installed in the affected VW diesels since 2009. To date, EPA has no indication of any pattern failures with these vehicles during inspection and maintenance emission tests.


Cheers,
Scott.