Do you need to worry about inflation?

Prices for goods and services have been relatively tame for the last three decades, but billionaire investor Warren Buffett recently put words to the fear of many market professionals. Inflation may not be around the corner. But, he said in a recent opinion piece, unless something is done to curb government deficits, inflation could hit with a vengeance when the economy starts to gain steam.

Those who lived through the 1970s know that inflation can be crippling, vastly boosting the cost of living without improving the quality of life. But you can reduce the potential effect on your own finances by assessing your personal inflation risk and taking steps to mitigate it.

"You don't have to see the whites of inflation's eyes before you do something about it," said Gary Schlossberg, senior economist with Wells Capital Management in San Francisco, Calif.

What can you do? Your first step is to assess your inflation risk, said Judi Martindale, a certified financial planner in San Luis Obispo, Calif.

Not everyone is hit by inflation in the same way or with the same magnitude. In fact, she said, retirees may welcome inflationary times because the Social Security portion of their monthly income is inflation-adjusted and many of their costs are fixed.

Inflation is likely to boost market interest rates, which could land retirees more generous investment returns on their certificates of deposit and other savings accounts.

On the other hand, young renters who owe significant sums on variable-rate credit cards could be savaged.

The only way to assess the effect on you is to pull out a copy of your annual budget (or create one) and start going through which items would and wouldn't be subject to rising costs.

For instance, the average family spends about one-third of its budget on housing, according to the Labor Department, which tracks household expenditures. But that expense is broken into several pieces. Your rent or mortgage would be the biggest piece, followed by property taxes (for owners), household furnishings, maintenance, utilities and housekeeping.

If you're a homeowner with a fixed-rate mortgage, the biggest piece of your housing expense is exempt from inflation. But those smaller pieces are not. And, of course, if you've financed with an adjustable mortgage or a home equity line of credit, the cost of your home loan probably would rise steeply with inflation.

As for renters, even in rent-controlled areas, rent hikes are often indexed to inflation. So if inflation rises sharply, so can the cost of keeping a roof overhead.

The same holds true with the average person's second-largest cost: transportation. If you have a fixed payment for your auto loan, you've stopped inflation on that part of your budget. If you've financed your car purchase with a home equity line of credit, your rate is probably variable and could rise. So could the costs for gasoline and repairs.

Food, clothing and health care are affected by inflation. But you can control the amount you spend on discretionary items such as entertainment, savings and charity.

Add up the amounts that you've tagged as being either fixed or discretionary and compare those with the total to determine how inflation-vulnerable you are.

If the bulk of your costs are exempt from inflation, there's no reason to do more. But if you find that more than half of your budget could be affected by rising costs, you might want to make some changes. Continued...