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The narrator basically gives a summary of what the conversation consists of. There is some dialog to begin with then the narrator cuts in to speed up the process. We read when the conversation ends and when another begins but we do not read the actual words that end and begin these conversations. The narrator is choosing what parts of the conversation to deliver and which to omit. There is plenty of dialog without interruption, though.
After Quixote gives a very long speech to the men he and Sancho have encountered along their way the narrator gives a description of the reaction- the perception of Quixote they travelers had. “They could see”…”which astonished them”…these descriptions imply that the narrator must be a homodiegetic story teller- one that is “on the scene”; how else could he or she know the reactions and emotions of the travelers.