Blackmail involves not revealing something compromising or injurious. This is legally distinct both because they are not "revealing" anything, and is legal because they're supposedly just enforcing the laws you broke.

The government generally works like the mafia, but in reverse: instead of using intimidation tactics to get you to break the law, they use intimidation tactics to get you to put other law breakers in jail. The difference is that the mafia would at least pay you for your efforts. The government just threatens you more.

They are choosing whether or not to reveal evidence at a potential trial. With cooperation, they do not reveal damaging evidence at trial. Without cooperation, they reveal everything. This is exactly how blackmail works in a lot of mafia movies.

If you broke the law, you can, should and will be punished for it; this is not usually negotiable, and they are doing you a favor by not prosecuting you.

The moral/ethical grey area here is that forcing someone to work for the government in exchange for not seeking what the law would call 'justice' is the equivalent of indentured servitude, a form of slavery.

With blackmail, you might normally have a reasonable expectation of privacy, and a reasonable expectation that someone will not intentionally harm or injure you. The government is not seeking to harm or injure you (well, not theoretically) when it enforces the law.

We've all signed the social contract that says that if we break a law, we will suffer the consequences, so it's not unfair for the government to prosecute crimes you have actually committed. It is also fair for them to give you a way out of them, as most cases are pleaded down, prosecutors change offenses to lesser degrees for a good track record, etc.

It's also definitely a grey area how prosecutors will often tack on "trumped-up" charges in the expectation that a judge will knock them down to a smaller list but still apply some. Both these practices need to end, or be curtailed greatly.