draupadyas ca catur-bhujah
alokya vadanam sakhyur
idam aha hasann iva
Translation by His Divine Grace A. C. Bhaktivedanta Swami Srila Prabhupada:
Caturbhuja [the four-armed one], or the Personality of Godhead, after hearing the words of Bhima, Draupadi and others, saw the face of His dear friend Arjuna, and He began to speak as if smiling.
Purport by His Divine Grace A. C. Bhaktivedanta Swami Srila Prabhupada:
Lord Sri Krsna had two arms, and why He is designated as four-armed is explained by Sridhara Svami. Both Bhima and Draupadi held opposite views about killing Asvatthama. Bhima wanted him to be immediately killed, whereas Draupadi wanted to save him. We can imagine Bhima ready to kill while Draupadi is obstructing him. And in order to prevent both of them, the Lord discovered another two arms. Originally, the primeval Lord Sri Krsna displays only two arms, but in His Narayana feature He exhibits four. In His Narayana feature He resides with His devotees in the Vaikuntha planets, while in His original Sri Krsna feature He resides in the Krsnaloka planet far, far above the Vaikuntha planets in the spiritual sky. Therefore, if Sri Krsna is called catur-bhujah, there is no contradiction. If need be He can display hundreds of arms, as He exhibited in His visva-rupa shown to Arjuna. Therefore, one who can display hundreds and thousands of arms can also manifest four whenever needed.
When Arjuna was perplexed about what to do with Asvatthama, Lord Sri Krsna, as the very dear friend of Arjuna, voluntarily took up the matter just to make a solution. And He was smiling also.