Found the cause. The problem is caused by syndaemon running in background. 
Running 
"killall syndaemon" in the terminal restores normal mouse behavior. Unchecking 
"disable while typing" option in Mouse settings, apparently, does not shut down 
syndaemon nor prevent it from starting on the next reboot.

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which is subscribed to xserver-xorg-input-evdev in ubuntu.
https://bugs.launchpad.net/bugs/503041

Title:
  Mouse lags while moving it and clicking any keys

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