I'm not totally sure what I'm looking at there, but all that shiny metal on that last shot makes me think that your problem may indeed be a short drive shaft. I've got 4 inch blocks in the back of my truck right now though with the stock driveline and no problem at all (not nearly that dramatic of a difference). I understand that a lot of people DO have drive line issues with a 4 inch lift, but usually only at full suspension travel, not at ride height, so it makes me think something else is going on...
Nothing else changed? You put the blocks in the correct direction? Forgive me if that seems a dumb question...no insult intended... I'm just trying to rule out all possible problems here!
As for the t-case, the 205 was never (to my knowledge) stock on an '81 K5, but if it was working fine with 2 inch blocks, there's not much reason to think that going to 4 inches would cause complete dysfunction unless it was right on the edge of working before, meaning whoever swapped in the 205 didn't put a long enough shaft in the truck.