I find that my characters appear from the situation they are born in. In my mind I get an image, usually an event of some kind and then the person who the event happens to follows. Then it's all backwards, what brought them here, what made them react the way they did when I first met them, all the way back until I'm at their birth really. I know them from their childhood at that point, and I usually have a story idea to go with them.
Most of my characters just "show up," I guess. Making a conscious decision to create a character doesn't usually work so well for me. My favourite ones are mostly minor characters who caught my interest and then developed larger roles in the story.
I think of a situation or emotional dynamic when I get the idea for a story, which naturally suggests an idea for a character. It sort of all flows from the initial inspiration.
When I started writing stories, when I was little, I took all my characters straight from real life and just twisted their personalities a little to get more fun results. Today, I still largely base my characters off people I know, although increasingly I am starting to make them up completely independent of any acquaintances. I find it much easier to base characters on real people, especially if they are a little quirky. You don't have to build up a complex back-story for your character and you're not likely to get into contradictions, because you already know what the person is like and where he's coming from. Eventually, of course, I think you have to start creating your own characters because otherwise you are somewhat restricted in your options.
My characters are a mesh of people I met, the more important the character, the less I base on on person, past or present. I don't want anyone to say this character is me, and then something bad happens or they do something that person doesn't like, and you have upset a person. That and I believe its easier to think of how a character of my creation acts rather then think how would _____act in this situation. When I build the character, Whats his name, where does he live, what does he do...etc, then I look at all the information and build thier emotions, and attitudes, which are(example) a sprinkle of steve from Indiana, Don in Greece, Juanita in Germany, & a dash of etc. I agree with Mecedes Lackey, I believe all characters good or evil should have human qualities. Evil character massacres everyone in an Abbey and hurries for a cup of coffee. Has a weakness for dragon babies. (Visiting Blu) Even an evil genius with delusions of grandure plotting to conquer the world still has a hobby.
sometimes, for me, i get ideas for characters from certain traits that either i myself have, or notice in other people, whether it be a slight mannerism, a quirk with how they act, maybe with a slight cross section of psychology. and sometimes they just wander in like an old friend who i haven't seen in ages, all ready to go, except for their name. don't get me wrong i'm no psychologist, and im not trained in psychology, i just pick up on traits that some miss.