have you tried to re-validate your steam files? this happens to me after my encounter with mouse not moving the camera view.

Originally posted by Khyryl:

have you tried to re-validate your steam files? this happens to me after my encounter with mouse not moving the camera view.

Thanks for trying to help. In this case, no I did not do that because I do not need to. Thanks to the OP I know what the problem is, it is the "Microsoft Flight Simulator" game (running in the background) causing the problem.

When I close the MFS, Valheim starts working fine.
When I re-open the MFS, Valheim starts having the same cursor-lock-not-working issue.
Clearly MFS is the root cause...

I purchased MFS today and for the last 9 hours it has been (very very slowly) installing the game in the background, and I was playing Valheim at the same time which caused the issue.

For anyone in the future who has the same issue I found my problem as strange as it may seem.
For some reason installing Microsoft Flight Simulator at the same time through the xbox store caused this issue.

Originally posted by Shayde Exul:

For anyone in the future who has the same issue I found my problem as strange as it may seem.
For some reason installing Microsoft Flight Simulator at the same time through the xbox store caused this issue.

I have had the same problem, due to the same reason.

Thank you for posting this issue & the root cause you identified - you saved me time!