The issue threatens to jeopardize years of painstaking diplomacy to improve relations between the two states that were shattered by Saddam Hussein's Aug. 2, 1990, invasion of Kuwait.
Two decades after a U.S.-led coalition liberated Kuwait, the tiny emirate has rebuilt itself, just as Iraq is striving to claw its way back after that war and the U.S. invasion of 2003.
All efforts to find a diplomatic solution to the battle over the planned megaports has come to naught.
That's exacerbated the uncertainty pervading the region amid the political upheaval of the Arab Spring, the U.S.-Iranian confrontation over Iran's nuclear project and the Sunni-Shiite Islamic schism between Saudi Arabia and the Islamic Republic.
"The northwestern section of the Persian Gulf has been mostly quiet in recent years when compared to the strategic Strait of Hormuz," a key oil artery at the gulf's southern end, U.S. global security consultancy Stratfor observed.
"The rivalry between the region's largest powers, Saudi Arabia and Iran, has for months been mostly centered in Syria.
"But with Iraq and Kuwait gradually re-emerging -- and returning to their historical competition -- and with Iran's position in Syria weakened as the crisis there reaches its final stages, the northwestern gulf will experience a surge in geopolitical conflict," Stratfor noted.
This rivalry will likely be played out in the Khor Abdullah waterway, a narrow channel that's the only access to the gulf from Umm Qasr, the largest of Iraq's four commercial ports. It handles 80 percent of Iraq's imports but shippers complain it's extremely expensive because of endemic bribery, high handling costs and poor service.
Only 6 miles across at its widest point, Khor Abdullah snakes around the Kuwaiti islands of Bubiyan and Warba on one side and Iraq's Al Fao peninsula on the other.
Iraq only has 36 miles of coastline, with only two channels deep enough for large ships, Khor Abdullah and the Shatt-al-Arab waterway to the east.
The two countries share Khor Abdullah, with the maritime border running down the middle. But the navigable portion of it is closer to the Kuwaiti side, so the emirate effectively controls it.
The Shatt-al-Arab is formed by the confluence of the Euphrates and Tigris Rivers, with the Iraq-Iran border running down the median line.
The key port there is Basra, the main export route for Iraqi oil, the country's economic lifeline.
Kuwait has 312 miles of coastline and three ports, Shwaikh, Shuaiba and Doha, all in open and deep water.
Both Kuwait and Iraq want to expand their trade, and Iraq needs a major infrastructure upgrade for its ambitious plan to quadruple oil production over the next few years.
Industry experts have warned that Baghdad has no chance of achieving its target of 10 million-12 million barrels per day with the present ramshackle infrastructure.
The $4 billion Grand Fao project was proposed in 2005 but political in-fighting, an inept government and political instability means it has yet to get off the ground.
Construction has already started on Kuwait's $1.6 billion port, Mubarak al-Kabir, on Bubiyan, only about 1 mile from where Iraq wants to build Grand Fao. It's slated to handle 14,000 ships a year.
Iraqis say there's no economic justification for the Kuwaiti megaport and view it as a hostile act against their war-battered country.
The Kuwaiti project's further along than Iraq's, largely due to a more streamlined and effective investment process and Baghdad fears once Mubarak al-Kabir's operating it will strangle their plans for Grand Fao.
As it is, Kuwait wants to be the trading center in the northern gulf, and reckons Mubarak al-Kabir could handle 80 percent of Iraq's imports.
"Kuwait sees such a chokepoint as leverage against future Iraqi aggression," Stratfor noted.
"Kuwait does not want to see a revitalized and rebuilt Iraq ... From Kuwait's perspective, political and security chaos in Iraq -- as long as it remains contained -- is preferable to a neighbor that could pose a future threat or undercut global oil prices."
Stratfor concludes: "Beyond the returning Kuwait-Iraq rivalry, there is the danger of the larger geopolitical competition between Iran and Saudi Arabia."