Goldman Sachs has joined the growing list of market participants that see the Federal Reserve cutting interest rates sooner than initially forecast.

The firm's economics team led by Jan Hatzius wrote in a note on Sunday they expect the Fed to begin cutting interest rates in the third quarter of 2024; the firm had previously expected cuts to begin in the fourth quarter.

"The change does not reflect any major shift in our thinking but rather that the rough thresholds for cutting that we have given previously are now reached earlier," Goldman's economics team wrote in a note on Sunday.

The firm's economists now see inflation falling faster next year that initially projected.

Inflation as measured by the core Personal Consumption Expenditures index, the Fed's preferred measure, is now expected to reach 2.5% by the second quarter of next year. As of September, Goldman had expected this threshold would be crossed for the first time in the fourth quarter of 2024.

In October, the last month for which there is data, core PCE rose 3.5% from the prior year. The Fed targets 2% inflation.

Goldman characterizes these expected interest rate reductions as "normalization cuts" as the central bank looks to bring interest rates down from 22-year highs.

"Most Fed officials think that 5.25%-5.50% is clearly well above the neutral rate, and that it is not necessary or appropriate to keep the funds rate that high once the inflation problem has passed," the Goldman team wrote. The Fed is expected to hold interest rates in this range when it announces its final monetary policy decision of the year on Wednesday afternoon.

The firm's call comes just a day ahead of the November Consumer Price Index (CPI) report and two days ahead of the Fed's final monetary policy announcement of the year. The Fed's "dot plot" is also set to outline new interest rate forecasts for the coming years on Wednesday.

"Most FOMC participants will likely see the latest inflation numbers as a genuinely encouraging surprise, and some might pencil in more cuts than before," the Goldman team wrote.

"But others might hold back for strategic reasons. Financial conditions have eased quickly recently led by expectations of earlier rate cuts ... and while participants probably do not see this as a major problem, they might prefer to avoid encouraging the market to price too many cuts too soon."

Goldman's team expects the dot plot to show most Fed officials see the central bank cutting interest rates by 50 basis points, or 0.50%, next year.

Goldman cautioned, however, that it is "hard to be confident" in any projections for cuts as minor movements in inflation forecasts could impact the call.

"This is not to say that the overall inflation picture is close to the point where Fed officials will feel comfortable lowering the funds rate just yet," Goldman's team wrote.

"We think the October inflation data overstated the good news a bit ...The wage growth box will also need to be checked for the FOMC to be confident that it is not premature to cut."

Josh Schafer is a reporter for Yahoo Finance.

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